Peter Brown and June Smith

Pete Brown and June Smith are two people who don't know each other. They both retired today, aged 65. Both are living alone and have each accumulated $100,000 worth of savings and investments. Both receive New Zealand Super as a regular income. Pete also has an employer super scheme, which he has chosen to receive as a pension. He will get $320 per week for the rest of his life.

June intends to continue working in her job on a part-time basis for the next five years. This provides her with $100 per week after tax. Both Pete and June own their own homes.

Pete knows that the average life expectancy of a 65 year-old New Zealand male is 82 - he can expect to have 17 years from now. The average life expectancy of a 65 year-old female is 85 - June can expect to have 20 years from now.

Pete and June can use their savings and investments to provide them with extra income, over and above New Zealand Super, Pete's pension and June's part-time work. They chose to apply their nest egg of $100,000 to each option below to see how much they can afford to spend each year from now. The comparison shows that putting all their nest egg into option 1 does little to supplement their income. Dividing their nest egg between option 1 and options 2 or 4 may suit them better.

Spending Options

	Option 1: Spend investment earnings only (preserve nest egg)
	Option 2: Spend all, but spend the same amount each year (nest egg + earnings)
	Option 3: Spend some for a number of years
	Option 4: Spend all, but spend less each year (nest egg + earnings)

The calculators assume a return of 2% per year after tax, fees and allowing for inflation at 2% (equivalent to around a 6.5% gross return over the long-term).

Any money that Pete and June have invested in their homes is additional to the $100,000 nest egg they have accumulated. They can spend this as they choose, when they sell their final home.

  Option 1

Spend investment earnings only (interest, dividends, etc only but preserve their $100,000 nest egg).

Under this option both Pete and June would have $1,961 after tax to spend each year for the next 17 years and 20 years respectively. This allows for inflation of 2%, which means the spending power of this amount doesn't change. When they die they will both still have $100,000 worth of savings and investments in today's money to pass on through their wills.

Advantages

• If you have sound investments, you'll never run out of money.
• This is a relatively simple strategy to manage.
• It is good for those who want to leave a healthy legacy.

Disadvantages

• This 'die wealthy' approach does not use any of your original capital and will mean a significantly lower income compared with that from Options 2, 3 and 4.
• You need to decide whether you really are prepared to live a lesser lifestyle in order to pass your nest egg on through your will.
• The amount available for spending each year will vary according to the actual return received from investments.

  Option 2

Spend all, but spend the same amount each year (interest, dividends, etc plus their $100,000 nest egg)

Under this option Pete can spend around $6,860 each year from now for 17 years and June can spend around $5,996 each year from now for 20 years. Pete is prepared to live off New Zealand Super and his pension if he lives longer than expected (82 years). His view is that his activities will be reduced and living costs will be lower.

June, however, knows her family tend to live long healthy lives. She believes she is likely to live until she is 90, not 85 as expected. Given this, June can now spend around $5,022 each year.

Under this option Pete and June will have spent their entire $100,000 nest egg by the end of their expected lifetimes.

Comment

Pete and June should review their strategy regularly, every couple of years, to allow for any likelihood of living longer than expected.

Advantages

• You will have the best lifestyle that you can afford, from now.
• You know on average how much you can afford to spend each year from now.
• You will be spending your retirement savings for the purposes for which you intended to use them - to support you in your semi-retired / retired years.

Disadvantages

• There is a reasonable chance of outliving your savings and investments, unless you have allowed for a longer than expected semi-retirement / retirement. For Pete the probability is 50%, for June it is 53% / 30%, if she expects to live until 84yrs / 90yrs.

If outliving your nest egg is a concern, the following suggestions would offer a greater sense of security:

• Divide your nest egg - put some of it into 'spend earnings only' and 'spend all' of the remainder.
• Sell your current home and buy a cheaper one, or use the property to raise extra cash later on.
• Divide your nest egg between 'spend all' and something like an annuity, which will provide you with income until your death.
• Choose a higher expected age at death to allow for the possibility of living longer.

  Option 3

Spend some for a number of years - (interest, dividends, etc plus some of their $100,000 nest egg)

Pete decides he is going to spend $10,000 every year for the next 10 years. After that he will have $10,212 in today's money to spend over the remaining 7 years given that he lives to 82 years as expected.

June decides to spend $7,000 every year for the next 14 years. June will then have $17,894 left to cover her last 6 years / 11 years if she lives to age 85 years / 90 years. Both Pete and June will apply 'what's left' to either option 2 or option 4.

Comment

The calculations assume that the $10,000 and $7,000 annual figures are adjusted each year for inflation, which is taken as 2% per annum. That means the spending power of the amount used stays the same.

Advantages

• You will have the best lifestyle from now that you can afford.
• You know on average how much you can afford to spend each year of your semi-retirement / retirement and the impact of spending more in your earlier years.
• You will be spending your nest egg for the purposes for which you intended to use them - to support you in your semi-retired / retired years.

Disadvantages

• Unless you apply 'what's left' to option 2 or option 4, and calculate it over the rest of your expected lifetime, there is a reasonable chance of outliving your nest egg and experiencing a significant drop in lifestyle. This risk is not as serious for Pete who has both New Zealand Super and the employer pension worth $16,640 per year, neither of which will run out. June is much more at risk because the nest egg income is a much higher proportion of her annual spending no matter how she organises that.

If outliving your nest egg is a concern, the following suggestions would offer a greater sense of security:

• Reduce the number of years and/or amount you apply to option 3, and increase the amount applied to option 2.
• Sell your current home and buy a cheaper one, or use the property to raise extra cash later on.
• Choose a higher expected lifetime to allow for the possibility of living longer.

  Option 4

Spend all, but spend less each year (interest, dividends, etc plus their $100,000 nest egg)

Pete and June decide they are going to spend all of their nest egg but choose to spend 5% less each year - that is, each year they have 5% less to spend than the year before. This way they have more to spend in their 'younger' retired years but less in their 'later' retired years.

Once again, as Pete and June move through their retired years, they review their strategy and spending regularly. They know that the older they get, statistically speaking, the longer they are likely to live. They need to allow for this.

Pete's income stream at 5 yearly intervals, reducing by 5% each year is:

June's income stream at 5 yearly intervals, reducing by 5% each year, if she lives to 85, is:

June's income stream at 5 yearly intervals, reducing by 5% each year, if she lives to 90, is:

Comment

This approach is similar to option 2 but, instead of Pete and June spending at a constant level, their spending is gradually reducing.

Advantages

• It recognises the likelihood of increased spending in the next few years, and decreased spending in the later years.
• You know on average how much you can afford to spend each year from now.
• You will be spending your nest egg for the purposes for which you intended to use them - to support you in your semi-retired / retired years.

Disadvantages

• Like either option 2 or option 4, you need to allow for the possibility of living longer than expected.

If outliving your nest egg is a concern, the following suggestions would offer a greater sense of security:

• Divide your nest egg between option 4 and option 1.
• Sell your current home and buy a cheaper one, or use the property to raise extra cash later on.
• Choose a higher expected lifetime to allow for the possibility of living longer.

In Summary

Pete Brown's results

June Smith's results