Knowing where you are going
IT is hard to believe it is
February already — the combined excesses of Christmas and the holiday season mean that for many people, the year does not necessarily start on a good financial footing. Perhaps 2017 is the year to make a change.
Many years ago, I read Stephen Covey’s book The Seven Habits of Highly Effective People. Most of its guidance is lost to me now but one pearl of wisdom has endured, that is Covey’s principle of ‘‘starting with the end in mind’’. The habit suggests that, before starting any project, having a clear vision of the end point is a critical success factor. Whether it is building a house or planning your retirement, it is a principle I thoroughly recommend.
In a retirement planning context, the ‘‘end’’ can be identified by posing one of two questions;
For those not yet retired the question is: how much capital do I need to accrue if I want work to be optional at some point in the future? Let’s call this your investment Wealth Target.
For those who are retired the question becomes: how much annual expenditure can I draw from my investment portfolio and not have the money run out before I do?
This all seems pretty selfevident but the reality is when I talk to people who have started either building a retirement pot or are drawing down on their savings, many are doing so without considering the question relevant to them.
It’s great that they have started providing for their future but whether it is going to be sufficient for their needs is not known. When I ask people to think about these issues, one stunning fact comes to mind — most people in the preretirement phase have no clear idea of what it costs them to live.
They know what they earn but they have no clear idea of where and how they spend their income. It seems pretty clear to me that if you don’t know how much it costs to live today, there is little chance of being able to assess your savings capability or calculate your future retirement expenditure level. In this hightech world with mobile devices, apps, and internet banking, we are now better equipped than ever to have a good understanding of this. The value of tracking your expenditure is that it allows you to more accurately identify the three elements of your expenditure.
The first element is your ‘‘core’’ cost of living. These are the business as usual, but required, expenses of operating your household.
The second element are those intermittent but material expenses that need to be considered, such as annual holidays and the replacement of required capital items.
The third and final element are those expenses that are truly discretionary. What expenses you allocate to each category is a highly personal decision and will be different for each of us. In my case I think my cycling expenses are core expenditure; my wife considers them a discretionary expense! The advantage of understanding your expenditure in this context is that it not only allows you to identify the level of savings you can potentially achieve today but it can also serve as an indicator of what income you will need to cover your expenditure in retirement.
If you are reading this column, I suspect that I am ‘‘preaching to the converted’’ but the question I would ask you to consider is: is your family on board also? The life skills of running a budget and learning to live within one’s income are not generally taught within our education system, although there are some promising changes happening such as the Banqer financial literacy programme available in some primary and intermediate schools.
It would appear to me that most financial habits, both good and bad, are learnt in the home by a process of ‘‘osmosis’’. The question is: what are you ‘‘teaching’’ to those around you?