I am 34 years old and would like to know how much I need in capital to peacefully retire (early) with a monthly interest payout of R50 000 after tax? Which investment vehicle will be best suited to pay out this amount?
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Your question is very topical and has garnered a lot of media attention over the last decade via movements such as FIRE (financial independence, retire early).
The idea behind FIRE is that you find ways to maximise your savings (targeting 50% to 80% of your income) so that you can stop earning an income at a young age. Proponents of the movement suggest you should aim to save at least 25 times your estimated annual living expenses so that upon retirement you can withdraw 4% of your “retirement fund”.
Let us start with the number-crunching part of your question. As with all calculations of this nature, there are assumptions that we will need to make. You didn’t specify what retiring early is (this is age 50 to some people and one day before passing away for others), so I’m going to have to pick a number; I’ll go with age 55. The other assumptions I have used are:
Inflation: 4.5% (important when working out the future value of the R50 000 you would like. Also, I have assumed your monthly contribution goes up each year with inflation).
Life expectancy: age 100 (our calculation assumes you run out of money at this age).
Current assets/savings: R1
Average tax rate in retirement: 20% (R62 500 needed pre-tax to get R50 000 net).
Based on the details above you would need to save circa R26 000 per month and then increase this by 4.5% (inflation) every year until age 55.
You have also asked what investment vehicle is best suited to your objectives.
To save R26 000 a month you would need to earn say R70 000 a month pre-tax with the following assumptions:
- Average tax rate of around 29%;
- You contribute nothing to a retirement annuity; and
- Both you and your employer contribute R2 000 each to medical aid.
If, for example, you contribute R5 000 a month to a retirement annuity, your average tax rate comes down to 26.5%.
I have gone through this high-level tax exercise as the type of investment product you choose determines, among other things, how your return and withdrawals will be taxed.
At this point, I just want to reiterate that I am not giving advice but rather giving you something to think about.
Back to investment vehicles. You will most likely find that a blend of products will work best. Here are a few thoughts on some of the main investment vehicles available at the moment.
|Investment vehicle||My thoughts|
|Tax-free savings account||I would think that this is a slam dunk option, although your maximum contribution here is R3 000 per month; you still have R23 000 per month you will need to invest.|
|Endowment/sinking fund||This is a 50/50. Based on current legislation tax is paid within the investment on the investor’s behalf at 30% income tax and 12% capital gains tax (CGT). Based on my assumptions, your average tax rate is around or below the product’s flat rate so you could land up paying too much tax.|
|Retirement annuity||Likely to be beneficial as you will get a tax deduction on your contribution, and your growth will be tax-free. You do need to consider the lack of liquidity, Regulation 28 investment guidelines and the fact that when you retire the full income from the annuity will be subject to income tax.|
|Unit trust/shares/exchange-traded funds etc||These types of investments could be suitable to your plan as they offer many investment options and liquidity. Equity-based investments will attract mainly CGT when you sell, where the maximum is 18%. The tax along the way should be low unless you chop and change often.|
You have an ambitious objective. To see this come to fruition you would need a capital value of approximately R22 000 000. I wish you the best of luck in reaching your goals. My thoughts herein are not all-encompassing, but they should give you some pretty clear direction.