My first transition to retirement financial planning process

Its worth noting that this was one of my first stabs at planning out a retirement process, and as such it will evolve and change over time. Having gone back and read this several years after it was published, it was pretty crude there are a few areas that I need to address – such as I have built a much larger portfolio of index funds, and my websites, IP and other investments are producing more income than I originally planned for – leading to the potential for some planned lifestyle inflation with raising a family. Nonetheless I am going to keep it up as I think it still is a good example that shows process I went through at the time to plan it all out

This article explains how I am going to try and structure my financial planning process during retirement. It is not perfect, but it is a start. I have made countless revisions to this so it is a bit of a works in progress, and I really value the feedback I am getting for articles like this. The intent is to revisit this topic perhaps quarterly or biannually to provide an update as to how its looking. I understand that there are so many variables which make this kind of plan borderline useless – but you have to start somewhere…

I have broken up my transition to retirement financial planning process into stages based on age – FIRE, traditional early retirement, conventional retirement and potential pensioner. I explore how I will use my assets during these phases as they become available, including drawing down the ‘FI portfolio’ of stocks, the use of investment properties, my annuity, superannuation, the role my online businesses will play, and possibly use of the aged pension to supplement income if required later in life.

Introduction to my financial planning process

When you think of conventional retirement, most people picture wrinkled skin, pensions, prune juice and games of bridge. But when we are talking the FIRE community, that couldn’t be further from reality. Many in the Financial Independence Retire Early (FIRE) community are successfully retiring from full time work in their 30s, and some successful individuals have even been able to reach work optional status in their late 20s! But its not a ‘retirement’ in the conventional sense…

For many though, FIRE might also mean Financial Independence – Retire Eventually. Not everybody is willing to hang up their boots early, and meaningful work is a very important for the overwhelming majority of us. Reaching Financial Independence can therefore become a pivot away from conventional full time ‘work’, and allows someone to focus on specific aspects of their work they enjoy (and ditch the boring stuff), as well as spend teir time on their other passions (without drastically changing their life too much).

This is what FIRE is for me – Reaching Financial Independence is a strategy I am using to enable a shift of focus away from my ‘hard-core’ professional career, and more into my personal, family, recreational, creative and entrepreneurial life. If you have been following this blog for any amount of time you will know one of my main motivations on my FIRE journey is being able to start and provide for a large family without having to spent the majority of my time up in the air, navigating the globe without them and living out of hotels.

Previously I had included my retirement planning updates on each of my net worth updates, although I think this was a bit of overkill and TMI, so instead decided to create a dedicated article which I will look to update quarterly or maybe biannually – depending on how interested people are.

Finally, before we get into it, because of the longer time frames these portfolio’s will be around, they are all considered ‘very aggressive’ that is close to being 100% stocks (and property) with a fairly small cash cushion. I plan in retirement to keep somewhere around 1 to 2 years living expenses in cash, but as I am currently in the accumulation phase I am putting this cash to work for now.

My transition to retirement system

To manage my transition to retirement planning, I have roughly broken it down into stages based on what becomes available when. This is due to three major financial milestones being

• Annuity available from age 55.
• Super pension being available from age 60 (my preservation age).
• Aged pension being available (if eligible) from age 67.

This means the stages are roughly;

1. Stage one – FIRE to 55: Drawing down the FIRE portfolio (if needed) whilst receiving rental income from IP, and business income
2. Stage two – 55 to 60: Annuity, investment property portfolio income and business income.
3. Stage three – 60 to 67: Superannuation pension, Annuity, investment property portfolio income and business income
4. Stage ‘four’ – 67+: If everything else fails, I can resort to the pension (if its still around, which it probably will not be)

Transition to retirement financial planning process stage one – FIRE

Age ? – 55

Assets: Stock Portfolio, Rental properties and Business

Stage one commences once I reach my target FIRE passive income number. Many people also express this as a ‘FIRE number’ which is a portfolio value that will produce the passive income that they need.

My ‘Single FIRE‘ number is only around $2000 per month ($24K per year) because I am naturally a pretty frugal person and it doesn’t take much to keep me happy (tbh I would probably be happiest in a log cabin on a large property to farm). This amount of passive income could be produced by about a $340K portfolio; and due to the low and middle income tax offsets in Australia there is essentially no tax payable on this income. Additionally, with Australia’s unique tax laws, franking credit refunds will account for approximately $4800 of this income as a tax refund each year.

Things get a little trickier (more expensive) when it comes to family planning – I calculate that each child will add more to the family bill; a $3K upfront cost and $150 per week (each) requiring about an extra $95K in the portfolio (to be drawn down at the higher rate of ~8% over their 18 year supported life at home) per child.

Therefore the ‘Family FIRE’ goal for six kids on a farm is closer to $6000 per month ($72K per year) after tax. To produce $6K a month ($72K per year after tax) on one income requires an income of $95,000, a tax bill of about $22,650 and a portfolio of $1.36M. However, when we more efficiently spread this between the two adult parents using the trust (or joint ownership structure) we only need to make $3,000 each per month ($36K per year). This can be achieved with an income of about $41,000 each, or a combined total of $82,000 with a joint tax liability of about $9,000 (less any family tax benefits etc). This could be produced alone by a stock portfolio of under $1.2M, but will of course course be supplemented by rental and business incomes. More or less then, ‘Family FIRE’ is reflected by a gross ‘passive’ income of about $6,800 per month.

In terms of how this will work, the stock portfolio will be drawn down at a 7% rate over an estimated 25 years. Rental yield on the investment properties will also slowly increase as rents gradually increase and the effect of inflation erodes the ‘value’ of the interest only loan on the properties, as well as potentially refinancing to withdraw equity and buy more properties (this growing portfolio equity provides a ‘back-up’ to my shares, superannuation, business and aged pension, although it is not something I am solely relying on).

Currently, the figures look like;

• Draw down of a stock portfolio over 25 years = $17,150 per annum ($1430/month)
  
• Investment property positive cash flow: $1,440* per annum ($120/month)
  
• Business portfolio positive cash flow: $11,520* per annum ($960/month)

Total: $30,110 per annum ($2510/month).

Which puts me well and truly ahead of my ‘Single FIRE’ target, and about a third of the way to my ‘Family FIRE’ goal of $6800 per month.

At some stage during this period (early 30s) it is likely I will purchase a block of land and build a family home on it which will be the PPOR. Any additional income that is generated that I don’t need can be put towards paying off non tax-deductible debt on the PPOR (either with an offset or using debt recycling to convert this into tax-deductible debt to buy more index funds), beefing up any mortgage offsets on the investment properties, replenishing the FI portfolio or even building my superannuation as a concessional contribution which lowers my tax bill and builds the super balance towards the $1.6M cap. You can do some calculations based off a few assumptions and a compound interest calculator to see what contributions you need to make to hit the cap by your preservation age (which is probably 60). As I get closer to preservation age, it is likely I will focus more on squirreling funds into super, but before then I will likely keep it outside for greater flexibility.

*Both of these incomes will grow faster than inflation as I slowly work on building them as businesses

Transition to retirement financial planning process stage two – Traditional early retirement

Age: 55-60

Assets: Annuity, Investment property portfolio and Business

Stage two begins when I am eligible to access my transition to retirement annuity at age 55. This annuity is kind of like superannuation but technically it is an insurance product called a defined benefit scheme, or a transition to retirement scheme. I have ‘paid into’ this over my career (in lieu of conventional super – although I also have a separate super which I pay into) and then the annuity is paid out as an ongoing income after I retire. These are sometimes offered by organisations to retire senior staff members on high incomes and make positions available for more junior employees working their way up who bring change and innovation (and are probably also on lower salaries which benefits the company), although they are becoming less common as they are expensive to fund. The longer I work, the higher the annuity becomes – the idea being one day it is so attractive that you then take the transition to retirement some time after age 55. If I retire earlier than 55, the annuity ceases to grow in terms of salary multiples, but will slowly grow based on CPI.

By age 55, I am assuming the ‘FI portfolio’ of stocks has been completely drawn down, and I still have at least one cash flow positive investment property – the plan is of course to try and refinance to access the growing equity to invest in further cash flow positive investment properties. The business portfolio should still exist and have grown, although I am not making any assumptions about earnings growth (other than it shouldn’t really decrease). I will also probably either own my PPOR or have fully used debt-recycling to convert the mortgage into a tax deductible loan for ETFs and LICs backed by the property.

Again, any additional cash I do generate that is not needed can be contributed into my Superannuation towards reaching the $1.6M cap. Realistically, as I get older I am aware that my cost of living will probably increase though. Whether that is medical costs, wanting more automation, outsourcing or comfort in my life (I might be less inclined to get covered in oil underneath my car or get onto the roof to clean my gutters) or simply wanting to pay for some big awesome family holidays or helping kids out with a home deposit.

This is starting to get into a pretty murky territory with heaps of variables, so it is far from a perfect or exact solution. As a rough start, this is what I have so far…

• Annuity payment = $18,416⁺ per annum ($1534.7/month)
  
• Rental Income net profit = $1,440* per annum ($120/month)
  
• Business portfolio positive cash flow: $11,520* per annum ($960/month)

Total: $31,396 per year ($2616/month).

⁺This annuity product I have through work is indexed to the official CPI figure (somewhere around 3%) so its purchasing power should remain steady (should be closer to an annual income of $40,000 at age 55). This is subject to tax.

*Both of these incomes will grow faster than inflation as I slowly work on building them as businesses.

Transition to retirement financial planning process stage three – Conventional retirement

Age: 60+

Assets: Annuity, Superannuation, Rental properties and Business (+ Aged pension as a backup if it all goes wrong)

Stage three begins when I hit preservation age am eligible to access my superannuation lump sum. The plan is to roll this (and any other super I have accumulated) into a pension phase account which will pay a tax-free superannuation payment.

I should still have at least one cash flow positive investment property (the plan is of course to try and refinance to access the growing equity to invest in further cash flow positive investment properties though). There might need to be a discussion with a financial adviser about a SMSF structure or somehow potentially rolling equity from the investment properties into the super fund towards reaching that $1.6M cap, which could end up being a more tax efficient way to use that capital to produce an income – its a pretty complex topic and I am far from a specialist though.

The business portfolio should still exist and have grown, although I am not making any assumptions about earnings growth (other than it shouldn’t really decrease).

Again, as I get older my cost of living is likely to increase further again. Similarly, we are talking quite far into the future so these numbers might be far from correct, but as a starting point…

• Superannuation pension. The $70K lump sum** will be rolled into the pension phase account with a 4%^^ initial mandatory draw down = $2,800** per annum ($233/month)
  
• Annuity payment = $18,416⁺ per annum ($1534.7/month)
  
• Rental Income net profit = $1,440* per annum ($120/month)
  
• Business portfolio positive cash flow: $11,520* per annum ($960/month)

Total: $33,856 per year ($2821/month).

⁺This annuity is indexed to the official CPI figure (somewhere around 3%) so its purchasing power should remain steady (should be closer to an annual income of $40,000 at preservation age). This is subject to tax.

*Both of these incomes will grow faster than inflation as I slowly work on building them as businesses.

**This is the current figure with zero investment growth. Realistically, based on a 7% growth (after fees and inflation) this might be closer to a $609,000 portfolio of ETFs at preservation age, producing a 4% draw down income of $24,360 per annum. This can be rolled over into a pension phase and is tax free – it is likely I might end up selling investment properties or refinancing to extract equity to try and boost this pension phase account up to the $1.6M cap with ETFs but I haven’t planned on this.

^^The mandatory draw down figures increase with age as set by government regulations.

Transition to retirement financial planning process stage four – Pensioner?

Age: 67+:

Assets: Annuity, Superannuation pension, rental income vs aged pension, Buisness

Nothing much really changes when I hit 67, other than there is age eligibility for the aged pension. I know that the investments will have grown and it is likely that I will have more investment properties (potentially being able to sell these and push the equity into my superannuation pension phase account which would be an additional source of income), but any which way I slice it, based on investment growth I should have thankfully accumulated enough assets to live comfortably without needing to resort to the aged pension.

For the aged pension eligibility calculator, I have included the annuity, rental income and business income, as well as a super balance of $609,000 ($609K is the expected compound growth of 70K within super over 31 years using a conservative 7% figure) and a projected investment property equity of $700K (based off 2% property capital growth over 31 years) as financial assets for their deemed income calculations. I am not sure how my annuity is valued according to the government (I value it at 25x annual earnings using the 4% rule), but even without the annuity, my future wife and I would be ineligible for the pension.

Any investment properties you have are included in the aged pension eligibility assets test, and they are deemed to produce an income of about 2% (so as an example $1M of property is deemed to produce about $21K of income), but there are thresholds and allowances which may make you eligible for part-pensions in some circumstances. Check out Noel Whittakers Aged Pension Guide for more information.

Conclusion

Whilst far from a perfect answer, this article explored how I am roughly structuring my finances into three practical phases – FIRE, Traditional early retirement and conventional retirement. I looked at the various income sources and began to look at the current financial framework in Australia to work out how I can optimise my finances to produce the best quality of life and highest income stream, and why I will not be eligible for the aged pension.

Currently (without factoring in for investment growth, inflation or expanding the property portfolio) these phases represent an income (in today’s purchasing power) of;

• Phase one – Financial Independence Retire Early: $30,110 per annum ($2510/month).
• Phase two – Traditional early retirement (55-60): $31,396 per annum ($2616/month).
• Phase three – Conventional retirement (60+): $33,856 per annum($2821/month).

When factoring in a 7% growth within superannuation, the estimations show a projected balance (based off no further contributions to super) of $609K, and therefore an increased income commensurate with the mandatory 4% draw down. This means during phase three the income would be;

• Phase three – Conventional retirement (60+): $55,416 per annum($4,851/month).

Furthermore, as I continue to work my annuity permanently increases, I make further (mandatory) payments into my super fund which grows the balance and thus future income in phase three, I invest further in the FI portfolio which increases my phase one FIRE income. On the side my investment property portfolio and business also grow, producing more income across all three phases.

With this in mind, whilst this is a very rough first attempt at a Transition to retirement financial planning process, I consider the above figures to be grossly conservative.