A relative of a roughly similar age to me asked a question that I’ve heard several times over the last few years:
“How do I know how much income I’ll receive in retirement?”
From which you’ll infer that he – like most of us these days – can’t rely on a defined-benefit final salary pension scheme, which would have made answering such a question relatively straightforward.
Traditionally, my answer to such questions has involved explaining the idea of annuities (about which most of people are shockingly ignorant), pointing people to handy ready-reckoners such as the one published in The Sunday Times each week, and explaining the benefits of impaired health and dodgy lifestyles. (Beneficial, that is, from the perspective of an annuity!)
Because from April there’s an alternative solution, and one which will suit my relative down to the ground.
Forget government-imposed GAD limits, forget drawdown regulations: take out what you will, when you will.
Conceptually, the idea is to give individuals the freedom to work out their own drawdown level, enabling them to pace the consumption of their pensions to match their own anticipated remaining lifespan.
So if the doctor gives you the news that the Grim Reaper will be calling in a year or so’s time, booking that first class cabin on your final world cruise becomes a realistic prospect.
But frankly, for wealthier pension savers like my relative, there’s another prospect, which is eating into capital only very modestly – if at all – and simply withdrawing the SIPP’s natural income.
In which case, the answer to the question “How do I know how much income I’ll receive in retirement?” can have a different answer.
Namely, in the immediate run-up to retirement, I think it’s sensible to actually begin building that income, switching investments from things like growth funds and index trackers into income-focused shares, investment trusts, and funds.
At which point, it becomes very straightforward to estimate the retirement income generated by a SIPP. It’s basically the income that is already being generated, plus the natural growth in income that is (hopefully) delivered by rising dividend payments.
That – to me, at least – seems a much better way of going about things. No more hawking your SIPP around various annuity providers, rate-tarting your way to the biggest annuity payout you can get.
An annuity payout, it is worth stressing, which has seen a considerable decline in recent years as gilt and bond yields have plummeted earthwards.
Annuity rates may at some point start to climb up to levels seen ten or more years ago.
But frankly, Euro-deflation, negative interest rates, and lacklustre global growth make the prospect seem increasingly remote to me.
Risk reminder: The income from an annuity is guaranteed. Dividend income from shares or investment trusts is not. There are many income investment trusts that have delivered a rising payout for decades, but that is not a guarantee they will do so in the future. So one pragmatic response to creating a secure retirement plan could be to look for a minimum income floor from safer investments, and then to augment it if you’re able to with higher risk / higher reward investments such as investment trusts.
Eat your own dog food
As it happens, I was able to impart one other piece of information to my relative.
Which was that this was the very strategy that I was pursuing myself.
Beginning this year – and partly impelled by the various post-RDR changes that we have seen in platform fees – I have been gradually switching my SIPP out of funds and index trackers, and into income-focused investment trusts.
Less urgently, I’ll also be doing the same with the ETFs and direct shareholdings that my SIPP contains.
(Why less urgently? Only because the fee structure of the platform in question penalises these less onerously.)
Put another way, that is certainly where all my reinvested income is going, plus any capital that’s freed-up by cashing out of individual shares and recovery plays. (Message to Tesco: hurry up, please!)
But which investment trusts to buy? Therein lies another interesting tale.
The paucity of hard data with which to readily compare investment trusts is shocking. Citywire has recently launched an online tool comparing investment trusts’ prevailing discounts and premiums, but I’ve found nothing really similar with respect to the data I’m most keen on – comparative costs.
Moreover, there’s another problem with the materials found on-line regarding investment trusts, which is that Citywire (and other online sources, such as Baillie Gifford and Hargreaves Lansdown) tend to celebrate individual managers a bit too much for my liking.
For an investor brought up to regard active management as zero sum snake oil, that slightly sticks in the craw.
Although, that said, I am prepared to accept that some managers seem better than others at devising resilient income strategies, which isn’t quite the same thing as zero sum active management.
Work in progress
So over the Christmas break, I began building my own data source.
Yep, a spreadsheet.
Naturally, it isn’t yet complete – real life, alas, invariably gets in the way.
But I’ve made a start.
Moreover I’ve begun the process of switching, based on what the spreadsheet is telling me.
Next month, I’ll hopefully be in a position to post the spreadsheet here. But in the meantime, if you’ve thoughts to share regarding your own favourite income-focused investment trusts, feel free to share them in the comments below.
- The Government has produced a handy guide to the new Pension Flexibility changes, which you can download as a PDF and read with a cup of hot cocoa.