Balance in all things

There is a lovely, little pebbly cove in Cornwall accessed through the remains of an old Serpentine Works building. As you emerge onto the stones there are often magical looking piles of pebbles dotted around on the rocky beach. These structures are either made by some local Cornish artist with time on their hands or the local bucca/piskies. They are a tower of ever decreasing smooth pebbles that look precariously balanced but push them and they have a surprising amount of stability. They are perfectly balanced so that there is no rocking of any individual stone as each one is positioned on the one below with several contact points.

Sit down to attempt to build one yourself and you realise that the only way to do it with any stability is to attempt stone by stone to find one that will sit flat on the one below. It is either the most frustrating exercise ever or the most relaxing, depending on your psychological make up. What this does point to is the beauty that can be achieved in finding balance.

The work of Piskies?

We meet lots of people, some of whom become clients and we see imbalance all the time. There are several imbalances that from a financial point of view can spell bad news in the long-term.

The most common is too much value in the main residence and not enough value elsewhere. The main residence is useful to keep the rain off of your head but it creates expenditure rather than income. For those of us not fortunate enough to have a final salary pension that will cover all retirement expenditure, we need to build a second store of wealth that will take over from our employer and pay us in the future. It doesn’t much matter what that second store of wealth is (other property or investments) provided it has a thought through structure, that can produce tax efficient income in retirement. A very rough but useful rule of thumb is that you should aim to retire with as much value in this second store as you have in the main residence.

So someone retiring at 65 owning a main residence worth the average UK property price of £231,855 should have a pot of this equivalent amount to pay a retirement income. If it was invested in a balanced portfolio then there is a 50/50 probability*1 based on past returns that £231,855 could sustain a lifetime withdrawal equivalent to the current basic state pension of £9,110 per annum. So a couple living in the average home at retirement might have 3 x the state pension to live on (two from the state and one from an investment portfolio). The same couple retiring in a million pound home are likely to have higher living expectations in retirement and will need a £1,000,000 in that second store of value to generate a net income of £40,000.

The issue is that many people focus on the house first in life (probably as it is a bit more exciting than investments) and commit a significant percentage of their income to that acquisition, only focussing on building a meaningful portfolio in that golden decade before retirement (workplace pensions being the exception to the rule). We always advocate paying down main residence debt if you have a lump sum but investing the same monthly amount into investments as you pay in mortgage from early on can lead to a more balanced outcome, and the chance to retire comfortably or earlier. This can mean that a smaller house is a wiser decision for some in the early phase of wealth building and we have helped some people in the past to readjust their main residence ambitions and even downsize early in life to achieve a better work/life balance and reduce stress.

A more balanced approach?
A more normal view?

This issue has become more extreme in recent years due to the loss of final salary pensions transferring the risk/responsibility onto the individual, the rise in house prices and increase in longevity. This has left a generation fast approaching retirement with nowhere close to enough in their second store to fund a long-term retirement. Horrifyingly the expectations that people have of the annual returns on their investments is signifcantly out of line with past returns and therefore some are going to get a serious shock in retirement.

There is a balancing problem that some of the retired individuals that we meet have not found the right balance of spending vs saving and have accrued a large second store of wealth with no real prospect of ever using it up. This is still a problem (particularly when it causes tax issues) but it is an easier one for us to plan around as there are lots of great things that you can do with wealth from spending it better, to passing it down the generations to philanthropy.

The last of the major money balance problems is one of equity between spouses. It is common to see pension wealth disproportionally stored in the hands of the main breadwinner as there are limits on the ability of a low or non-earner to contribute to a pension. There is less excuse though for not using up the tax-free allowances to the maximum possible of a low or non-earning spouse such as ISA, pension and capital gains tax. It is frustrating for a couple to reach retirement and realise that all the income is taxed at the higher rate of income tax because it is produced in one name and therefore the second person’s lower rate income tax band is going unused.

Whatever your current position, it is always possible to bring more balance to your finances and improve your future.

*1 Using the legendary software Timeline, assuming a 1% per annum charge.

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