Be cautious about your later years!

There is a Cantonese saying that goes, “Be cautious about your later years” (因住收尾嗰幾年). Some might be troubled by the double meaning of this expression as a curse of misfortune during a person’s later years. But it is good advice if you apply it to your retirement planning. We work so hard to earn a living, hoping to save enough for a comfortable life in retirement. But here is a bold prediction: if we analyze our retirement needs using “common sense” and save for retirement accordingly, some of us may have trouble making ends meet in our later years.

The trap of living for the moment

The trap of living for the moment

To estimate our retirement needs, we have to take into account three ages: our current age, our retirement age and our lifespan. Our current age is straightforward, of course, and our retirement age is relatively easy to imagine. It is lifespan that is impossible to predict. For this reason, the industry calculates retirement needs using the “common sense” approach – that is, the life expectancy of men and women in Hong Kong. According to the latest statistics, Hong Kong men have an average lifespan of 82 years, and women 88 years, both very high in global terms. However, “life expectancy” means some people fall below the average and some above. In other words, if we use life expectancy when calculating our retirement needs, many of us won’t have enough savings to cover our later years!

If you wish to be financially secure in your later years, you should make a conservative estimate of a longer life expectancy, such as 90 years or more, when planning for your retirement.

Generating income that will last throughout retirement

Generating income that will last throughout retirement

A safer approach is to “live off the interest”, relying on the cash stream (or “passive income”) produced by your principal to cover your post-retirement needs. As the principal remains untouched, you receive passive income in perpetuity, and need not worry about money in your later years. Suppose your retirement expenses are $200,000 a year. With an annualized return of 4%, a principal of $5 million will help you achieve sustainable passive income. However, to live off the interest, you need a large amount of principal.

An annuity scheme is one practical way to tackle the financial risk brought by longevity. The government-run public annuity scheme is an “immediate annuity plan”, meaning if you are insured under this scheme, you can immediately receive a guaranteed stream of fixed income for your lifetime after paying a single premium. Other private annuity schemes offer different terms, guaranteed income streams and arrangements: you can pay a single premium, or contribute on a regular basis; take the income immediately, or after it has had more time to grow; and receive an income stream for the rest of your life, or within a designated time frame.

Regarding MPF management, you can consider withdrawing your accrued MPF benefits by instalments after you turn 65. The benefits not withdrawn will remain in your MPF account and continue to be invested. You can choose an appropriate investment portfolio with the aim of ensuring investment returns that at least keep up with inflation.

Working two years for one year’s retirement funds

Whether you choose to generate lifelong income from an annuity or live off interest, there is one prerequisite: a large sum of retirement savings in reserve. The purpose of the MPF System is to help the workforce save for retirement. Academics recommend that to ensure sufficient savings for retirement, you set aside one year’s living expenses for every two years of work. Why is that? Suppose we start working at 25, retire at 65 and live to the age of 85. If the annualized return is the same rate as inflation, thus ignoring the time value of money, this means you will work for 40 years to prepare for 20 years of retirement life. So for every two years you work, you will have to save a year’s retirement expenses. While this is a simplified calculation for reference, one thing is certain: if we don’t manage our wealth and keep spending for pleasure without a retirement plan now, we are sacrificing our well-being in our later years.

The MPF System provides basic retirement protection, but the basic MPF contribution of 5% each from employers and employees is a far cry from the ideal retirement savings plan of working two years for one year’s savings. Start managing your MPF account and making other savings or retirement investments to secure good quality of life in your later years!