The single biggest concern for people at retirement is to secure a stable
and predictable income.
One that hopefully will increase with inflation and protect your capital.
Add to that an income that does not attract too much tax.
Of course, such an animal is impossible to find today. And yet many have
chosen to move from an income that resembles the above, as in a defined
benefit pension fund, which is guaranteed, to one more risky, as in a
defined contribution fund, where nothing is guaranteed.
At retirement, members of such funds are faced with having to make their
own choices with regard to procuring an income for life.
And such a decision is not only complex, but can lead to hardship years
later, when it may be too late.
The safest option might appear to be to shove all your money into a bank
offering the highest interest and then to sit back. Over the short term
such an approach has not been a bad one, but with today`s decline in
interest rates, investors in these instruments are back to where they`ve
been for years: a negative return after inflation and taxes.
Over the past 30 years, savers have only enjoyed short periods where the
return on fixed deposits and mortgage bonds has protected their capital
after taxes and inflation. The past twelve months has been one of those
rare periods, now rapidly disappearing as interest rates decline.
On average you`ve lost money having all of it in the bank. While the
initial impact is not all that evident, even a small reduction in the
purchasing power of your capital could, over time, catch up on you. Ask
anyone who retired 20 years ago and did not have some of their capital in a
growth investment. The tax on fixed investments is iniquitous and needs to
be addressed.
No wonder investors are so desperate to find alternatives that can at least
offer them an opportunity of earning a higher income after tax, without
having to resort to unscrupulous operators offering slightly higher
interest than ones offered by the market place.
A popular alternative is a matured endowment with an assurance company.
Despite the recent publicity concerning the possible taxation of these
instruments, which is misplaced, a matured endowment still offers investors
an excellent alternative to procure a stable and possibly growing income,
with the chance of capital growth.
No wonder investors are prepared to pay a premium for a mature endowment.
This type of investment offers:
* A choice of portfolios, including an offshore one, while the portfolio is
taxed at 30 percent of all income earned in the fund;
* Withdrawals from the fund are not taxed, as taxes have already been paid
by the assurance company concerned; and
* Withdrawals can be made on a regular or ad hoc basis. However, the rate
of withdrawal from the policy does not exceed the growth in the value of
the policy.
In a perfect world, it would be possible to draw say 10 percent of the
value of the portfolio, while the portfolio grows at 15 percent. Such a
scenario would allow the income to be increased over time, while the
capital also continued to grow.
However, this is where it pays to understand the importance of the
underlying portfolio. It can suffer a capital reduction in times of stock
market turmoil. And if you continued to withdraw at the same rate, your
capital will come under pressure.
If such a scenario applies to you, check the market value of your
investment and adjust your income withdrawal.
The same theory holds for an investor who has a portfolio of shares or unit
trusts and makes regular withdrawals in order to provide an income. Draw
more than the growth of your portfolio and the capital will shrink. And
once this process starts, it`s difficult to turn it around in a hurry.