Dubai: Planning for retirement can seem daunting at times, but there are ways to temper those worries.
Over the years, financial experts have come up with several useful rules of thumb that can help you organize your finances. Of course, there is no one-size-fits-all approach to saving for retirement, but these strategies are a great place to start.
1. The 50/30/20 rule:
What is considered the nugget of financial planning by most experts is the 50/30/20 rule, which suggests dividing your budget into three compartments:
• 50 percent to pay for essential expenses, including rent or mortgage payments, groceries and minimum debt payments;
• 30 percent to cover non-essential expenses, such as going to the movies or on vacation; and
• 20 percent to save for retirement, build an emergency fund and pay off additional debt.
The 50/30/20 rule has become very popular because it balances wants and needs, and provides an easy approach to setting your monthly budget.
Assuming a monthly salary of 5,000 Dh, you will allocate 2,500 Dh (5,000 Dh x 50%) to needs, 1,500 Dh (5,000 Dh x 30%) to wants and 1,000 Dh (5,000 Dh x 20 for cent) to debt and / or your retirement fund.
2. At least 10% of your income in retirement savings
There is another rule of thumb about how much of your income should be spent specifically on retirement. According to many financial advisers, you should contribute at least 10 percent of your salary to your retirement fund or company savings plan.
Why is 10 percent a rule of thumb? One possible explanation is the ease of calculation: just remove a zero. With a gross monthly salary of 5,000 Dh, you know that you have to contribute 500 Dh to your retirement account.
One caveat here is that you should do this for as long as you are working, starting as soon as possible. Young retirement savers will benefit the most because of the compound interest.
The more you contribute to your retirement account in your first few years of employment, the more time the funds will have to grow.
3. Warren Buffett’s 90/10 rule
In 2013, legendary investor Warren Buffett revealed that he ordered his estate trustee to allocate 90% of his cash to a very low-cost index fund and the remaining 10% to short-term government bonds. .
As the name suggests, index funds simply aim to generate a return equal to the index they track, such as the S&P 500 key benchmark in the United States, after fees.
Warren Buffett’s advice has not gone unnoticed by investors. Between 2011 and 2016, investors withdrew $ 5.6 billion (20.57 billion Dh) from actively managed funds, which are trying to beat the market, and paid out $ 1.7 trillion (6.24 billion de Dh) in passively managed funds, such as index funds.
Placing 90 percent of your retirement savings in a low-cost index fund greatly minimizes your investment costs, since expense ratios (the annual fees charged to shareholders) are much lower than those of actively managed funds.
This means that there is more money left in your account to grow, and therefore you increase your chances of reaching your savings goal. Here is an example.
Some equity index funds have annual expense ratios as low as 0.05%, and those following the key S&P 500 index mentioned above had an average annual return of 8.65% over the period 2007- 2016.
As you approach retirement age, you may want to consult a financial professional on how to adjust your portfolio allocation as your needs change.
4. The popular four percent rule
After testing various retirement withdrawal rates using historical rates of return, several financial planners have determined that 4% is the highest rate that has been maintained over a period of at least 30 years.
Here’s how it works: Assuming a nest egg of 600,000 Dh, you would withdraw 24,000 Dh in your first year of retirement. In the second year, you would withdraw the same amount plus a supplement to cover inflation.
Assuming an annual inflation rate of 2.5%, your second and third withdrawals would be 24,600 Dh and 25,215 Dh, respectively.
While the 4 Percent Rule is not without its critics, nor is it the perfect calculation for everyone, it continues to help retirees plan ahead for the amount of their withdrawals over their years. of retirement.
Some years you may need to withdraw a little more than your planned four percent, financial planners also warn.
The result ?
These four rules of thumb can give you a head start on your retirement strategy. However, think of them more as guidelines and not as commandments.
Every financial situation is different, so make the most of the information and resources available through your employer-sponsored pension plan. Consult a financial advisor whenever necessary.