RETIREMENT PLANNING BLUNDERS OF THE MIDDLE CLASS
Published in The Star, On 26 March 2022.
In my line of work as an independent financial advisor, I often come across families and individuals taken by surprise at the state of their retirement funds as they approach their golden years.
Despite the numerous accessible resources on financial planning, many are left reeling, blindsided, and even clueless as to what to do to get closer to their retirement financial goals.
Interestingly, the failure to plan or to sustain oneself during retirement is not just limited to those with lower earning power. The upper middle class (earning around RM 500,000 annually) are just as equally affected
As a matter of fact, huge COVID-driven EPF withdrawals over the last two years have left an irretrievable impact on the savings of its contributors. According to EPF, only 3% of EPF contributors can afford to retire.
The question is, why are many middle-class folks caught off guard when it comes to retirement planning? Likewise, why is there high wage-earning households who can’t seem to get closer to their retirement goals, while there exist other lesser-earning individuals and household who seem to be able to do so?
This goes to show that the success of one’s retirement planning is not always dependent on the size of your paycheck. There are many factors (at play) leading up to your retirement planning success.
I’ve identified 5 of the most common retirement pitfalls:
#1 Not starting early enough
Unless you are living under a rock, putting aside money in your savings alone is not enough to help you grow your wealth. To reach your retirement goals, you need to invest a portion of those savings. When it comes down to investing, time is always an important factor.
The effect of compounded interest is often underestimated, but provides a huge difference to wealth accumulation. When you start investing early for retirement, you are in effect leveraging time to compound the interest on your investments.
Let’s take the example of Alex putting a RM 100,000 into an investment portfolio which consistently delivers an annual return of 8% , with the intention of withdrawing it when he is 60.
If Alex starts doing this at 45 years of age, he will in effect have 15 years to compound the investment. He will have a total of RM317,000 by the age 60. On the other hand, if he starts earlier at age 30, he will have double the time to compound the investment. Come time to withdraw, the investment will be worth well over RM 1 million in value – that is more than triple the amount compared to the same capital if he was to invest at age 45 instead.
Additionally, investing early also means you have more time to correct any underperforming investments that you make. A larger margin of error means you’re able to invest in more volatile funds that have potentially higher returns (and higher risks), thus increasing the potential of your returns.
The later you start investing, the more careful and safer your investment portfolios need to be, thus limiting your potential for returns.
#2 Not taking inflation into calculation
If there’s one thing certain about the future, it’s inflation. Whether you like it or not, the cost of living is going to rise.
Take for example; you have over RM2 million worth of assets now. Thinking that this will be a nice tidy sum for your retirement, you do nothing with it. But in a couple of decades, and thanks to inflation, the RM2 mil today may be only equivalent to RM500k in the future.
Therefore, any retirement wealth planning that does not take into account the impact of inflation rate is unrealistic and doomed to fail.
#3 Failing to be holistic in your approach
Most of us have more than one aspiration for the future. For example, we want to be able to own a comfortable house, a car, bring up our kids comfortably and provide them with the best education money can buy and enjoy a comfortable retirement life.
While we may roughly have an idea what we can and can’t afford, the question remains – can we afford all of this?
I would say that one of the biggest failing in retirement planning is the failure to see how one financial decision will impact on the other. For example, if you are to buy a comfortable home now, will you have enough to afford the best tertiary education for your child when he turns 18 in five years?
The best tertiary education comes at a price, and a hefty one at it too. It is not so much whether you can afford it, but rather, how a choice like this, will have an impact on your retirement planning in the long run. For the lack of foresight and holistic financial planning, many parents may end up having to retire later than expected, or worst, depend on their children once their retirement fund dries up.
When we look at our financial roadmap, we need to look at it holistically, taking into account the different money goals, timelines, and cash flow. Many Malaysians fail to use a holistic financial planning tool like iWealth, to evaluate how major financial goals like buying a nice home or unexpected medical expenses affect their retirement planning. From a professional standpoint, these financial goals should not be attained at the expense of jeopardising your own retirement.
#4 Settling all your loans before retirement
A lot of people have the misconception that you need to start your retirement life in your golden years on a “clean slate”, with zero debt haunting you.
While it is best to keep your outstanding loans to a manageable amount, it is not necessarily wise to clear all your debt before starting retirement. Contrary to popular belief, it is good to keep some credit lines open to take advantage of the availability of cheap money or low interest loans to keep your cash flow optimised. If you settle all your loans, it will be very difficult to apply for new lines of credit once you are a retiree with no documented source of income.
As a guideline, a healthy debt to asset level should be no more than 50%; while 30% or less is ideal. If you have more debt to asset ratio than this, it is time to take a look at your portfolio to see how you can reduce it. Perhaps selling a property that’s not yielding worthy rental income could be a good place to start.
#5 Not optimizing your hard-earned money
Investing to grow wealth is really about analysing and optimizing the money you have right now to perform at its best. Most Malaysians overlook this, thus, resulting in a lost opportunity to grow their money further.
Here are other instances of financial blunders that do nothing to grow our hard earned cash:
- Leaving idle an under-performing unit trust fund or loss-making shares
- Failing to utilise EPF money to invest into higher yield investments
- Not having the time to invest any idle cash due to a demanding work schedule
- Buying the wrong type of insurance plan
- Paying high sales charges on investments, thus diminishing its units and potential returns
Ironically, each of these mistakes alone is not substantially enough to hold you back from your financial goals.
However when combined and compounded over time, these small mistakes could cost the average middle-class Malaysian a staggering loss of RM 1.5 million to RM 3 million. That itself could turn out to be the deciding factor whether the average middle class attains the comfortable retirement that they’ve always wanted or not.
*Conclusion
Over the last two decades of our advisory experience, these are but some of the more common mistakes that we have encountered from our clients. As you may have observed, some of these mistakes stem from unawareness, whereas others stem from lack of timely action.
As we move into 2022, perhaps it would be a good opportunity to leverage on the new beginning to hit the pause button and review our financial goals holistically. If anything, make it a point to execute any necessary adjustments before we lose yet another year of opportunities to the busyness of life.
Yap Ming Hui is a licensed financial planner. The views expressed here are the author’s. Any reliance you place on the information shared is therefore strictly at your own risk.
Source: Retirement Planning Blunders of the Middle Class » Whitman