Anybody that thinks a million pounds will be enough to retire to a life of champagne and caviar is in for a shock.
A million invested in the bank today would earn less than £20,000 a year before tax – hardly a living wage for many people.
But if invested tax-efficiently and spread between a balanced mix of stocks and shares, it is possible to achieve a net income of £30,000-£35,000 a year that’s the equivalent of a taxable salary of over £50,000. While this is a respectable retirement income, it does not provide much margin for error in terms of how it is invested and how that income is achieved, especially if the million pounds needs to provide an income for your whole retirement.
This is why the way in which that million pounds has been accumulated makes all the difference and highlights the value of expert financial advice at an early stage.
For example, remember that the £35,000 of income referred to above will only be tax free if the million pounds has been invested ISAs.
“If you just inherited a million pounds, or you have that money solely in pensions, then the net return will be substantially less” says Gary Fawcett, divisional director and investment manager at Brewin Dolphin. Saving in the most effective way possible will include making the most of two of the most generous savings’ tax breaks available – the annual £20,000 ISA allowance, and also the generous tax relief on pension contributions.
“Ideally, when arriving at retirement, you want a mix of pensions and ISAs to draw from” says Gary. “Not only can you withdraw 25% of your pension fund tax free, you get such generous tax breaks on your pension contributions that they can more than offset the effect of tax on the withdrawals.” Aside from tax, another factor that can reduce your income is inflation. While relatively low by historical standards, inflation still has a surprisingly damaging effect on the spending power of your money. It is therefore important that your capital is invested in a way that enables it to grow, thereby provide a rising income over time. This is where investing in stocks and shares become so important.
“Although they can be volatile over the short term, equities have the capacity to grow in value over time, creating a larger pot of money which in turn produces an ever-increasing income. It is the most effective way to negate the damaging impact of inflation on your income.”
Even at today’s levels of around 2%, the impact over time is shocking. £1,000,000 left under the mattress today would be worth the equivalent of just £545,000 in 30 years’ time.
“It highlights not only the insidious damage that inflation can do, but the importance of building up as large a lump sum as possible during your working years, spread across ISAs and pensions, so that you have the broadest possible options when you hit retirement” said Gary.
“It’s easy to be complacent when you’re younger, but it’s absolutely vital to save as much as you can afford most people underestimate both how long they’ll live and how much money they will need in retirement.”
It is possible to achieve a slightly higher income by investing in high-yield bond funds. These are currently paying around 4.5%. But they provide no potential for capital growth, exposing your money to the ravaging effects of inflation. Plus the bonds are relatively risky, increasing the chances of some capital loss.
That said, for those with the appropriate appetite for risk, they can have a role to play in certain circumstances.
As you can see, there is a lot to think about if you want to earn a decent return even from a some as large as a million pounds. If you want to discuss how Brewin Dolphin can grow your wealth in the most effective ways possible, then contact the Newcastle office for a consultation today.
www.brewin.co.uk
