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Retirement planning
13 December 2023
Author: Punter Southall Aspire

Retiring Ahead of Time: The Power of Financial Planning

Looking ahead, would you like to have the luxury of knowing (in the future) that you could retire early if you wanted to? This is certainly more welcome than discovering you need to delay your retirement, perhaps due to a lack of savings. Fortunately, by planning far in advance, it is possible to give yourself the option of retiring ahead of time.

What is early retirement?

Early retirement looks different to each client. Yet a good starting point is to assume that it involves moving away from paid work (e.g. employment) and relying on other income sources, like pensions, somewhere between the ages of 55 and 66.

The first age represents the Normal Minimum Pension Age (NMPA) in 2023-24, which is the earliest point when most individuals can start taking pension benefits. The second represents the current State Pension age (for men and women born between 6/10/54 and 5/4/60) at which point they can start claiming an income from the government.

Of course, these are not hard-and-fast rules. After all, the NMPA will rise to 57 for most people in 2028 and the State Pension age will eventually rise to 68. An individual may wish to retire much earlier than the NMPA, such as in their early 50s or even in their 40s. However, in these cases, other income sources apart from pensions would need to be used - such as dividends from a stock portfolio and/or rental income from buy to let (BTL) properties.

Why early retirement involves forward planning

Think for a moment about how much it will cost to fund a comfortable (or “luxurious”) retirement across two or more decades. For instance, let’s assume that your household will need £30,000 each year in retirement. If you eventually retire at 68 (the expected State Pension age as things stand for those born from 6/4/78 onwards), then you may need £600,000 over a 20-year retirement.

Admittedly, this is a very simple calculation. For instance, it ignores any State Pension income you might receive and any rises to your costs due to inflation. However, the example serves to highlight how much a “non-early” retirement might cost – i.e. when an individual continues working up to their State Pension age.

If you want to have the option to retire earlier, then you will likely need to save more into ISAs, pensions or other accounts to cover your costs over those extra years (and to cover the absence of State Pension income). Fortunately, this can be accounted for with a financial plan.

Time - your secret weapon

The younger you are, the wealthier you are in one key aspect of life: time. This is something that no amount of money can buy. Yet more time can “buy” you more money - possibly for an earlier future retirement. This is due to a powerful mechanism called compound interest.

Compound interest works by building “interest on top of interest”. For instance, suppose you earn an 8% return on a £10,000 investment in the first year. By month 12, the investment would grow to £10,800. If an 8% return is also achieved the following year, then the total amount will stand at £11,729. The longer this process goes on, the more the investment grows from a “snowball effect” - particularly over a period of decades.

By year 20, the total amount could stand at around £49,268. By year 40, it could be closer to £103,000. Even accounting for inflation, taxes and fees (which would erode the investment’s future real value), this represents some truly impressive growth which could unlock more doors for those who may wish to retire early.

Seizing the opportunity

If you are young - in your 20s or 30s - and you think that you might want to retire early one day, then you have a precious opportunity to start laying the financial “groundwork” now. Older people can still achieve early retirement, in some cases, with careful planning. However, due to less time available for compound interest to work its wonders, this is likely to require more savings out of your own pocket (e.g. increasing your pension contributions).

Unfortunately, humans have a deeply ingrained desire for instant gratification rooted in our evolutionary history. If you are 20 years old and have £10,000 available to you, for instance, it can be very difficult to lock that away inside a pension for 40 years. It would be much more fun to spend it now on something enjoyable! The rising cost of living in 2023 adds even more pressure to the decision about what someone should do with this kind of money.

The matter can become easier, however, if you are not dealing with a lump sum but rather with contributions out of a monthly salary. Here, you could set aside a certain amount to put into a pension, Lifetime ISA or another tax-efficient “vehicle” to build up your future retirement fund.

This approach may not achieve the same growth potential as investing a single lump sum at the start of a 40-year period. However, contributing regularly to a pension over a similar period still allows you to benefit tremendously from compound interest - also establishing a healthy habit of saving throughout your career.

Of course, as you get older you may discover that you do not wish to retire early. That is perfectly fine. Yet it would be very liberating to know that you have the security of a healthy retirement fund available to you, as and when needed.

If you're interested in retiring early, get in touch with our expert team today.

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