Money: Pretend you earn less now to save a bigger nest-egg

By Mary Holm

Money Matters


Q: My parents, both aged 55, have a predicament.


My mother works part time and father is self-employed. They have joint incomes of $50,000 a year, and a small life insurance policy.

They lost their house and savings some years ago following poor advice, an accountant who misappropriated funds, and their own naivete.

They rent a modest dwelling, paying $275 a week. I am unsure of what entitlement they will have in the form of Government Super down the track.

I would like your input as to how they could turn this situation around to best prepare themselves for the future.


A: Your folks' situation is not enviable. And I'm afraid I haven't got any miracles up my sleeve.

Still, they've got quite a reasonable family income and, with any luck, will be able to work another 10 years or more.

As far as New Zealand Super goes, they will be eligible at age 65. Currently, Super payments to a married couple total $384 a week - about $20,000 a year - before tax. That amount rises with inflation, and possibly faster if average wages rise faster than inflation.

It would be good, though, if your parents have more than that in their retirement.

What they need is a realistic goal. A good one would be to get into a modest home of their own, with only a small mortgage or preferably none at all - by the time they retire. They might need to settle for a unit if they live in Auckland. But elsewhere they could get a small house.

Firstly, they need to save a deposit. There are basically three ways to do that: earn more, spend less or handle their money more wisely.

Could your Mum work more hours, or could either take on another part-time job? Or could they pretend they're earning $35,000 or $40,000 - an amount many other families get by on - and save the rest, perhaps via a weekly automatic transfer into a savings account?

As the savings add up, the money can be transferred into longer-term term deposits, which pay higher interest.

One possible way to cut spending would be to negotiate lower rent. There seems to be a shortage of good tenants these days, and people of their age who are former homeowners are probably highly desirable to landlords.

Another idea is to keep holiday spending down by camping, staying with friends or house-swapping. Your folks will know where else they can cut back while still having the occasional inexpensive treat. Having a goal will help.

As far as handling money goes, one good rule is not to buy anything including cars, appliances etc until you've saved for it. Avoid using credit, and you can save thousands of dollars in interest over the years.

It might take them two or three years to save a deposit. They could then buy a home with a 10-year mortgage of around $105,000, and the payments would be about the same as their rent. (That's calculated on today's mortgage interest rates.)

If they continue their savings programme after buying the home, they could use that money to pay the mortgage off in less than 10 years.

None of this will be easy. But it is achievable, and it should make your parents' retirement more comfortable and secure. Good luck to them.

Q: In some of your recent columns, I have noted that you have been extolling the virtues of annuities - those little-understood life assurance contracts.

I already receive income from three annuities, so you can see I am a fan of this wonderful financial concept.

I have wondered why you call them "do-it-yourself pensions"?

DIY is normally used in the context of the home handyman who, as an amateur, attempts to save money by undertaking a repair or home improvement project rather than calling in the appropriate tradespeople.

If people were to attempt to create their own retirement income plan in the form of a DIY pension rather than calling in an investment adviser, I suspect they are most likely to end up with a botched job.

They will probably run out of capital because they lived longer than they had envisaged or their investments yielded lower returns than they needed.

Alternatively, they might die leaving a sizeable chunk of their capital after having suffered a lower level of income than they could have enjoyed.

I'd prefer to call an annuity purchased from a life office as a "tailor-made pension" or an "off-the-peg pension", depending on the investor's precise approach.

Have I persuaded you to stop using the "DIY pension" terminology? I hope so.

P.S. An annuity can be purchased only from a registered life assurance company, but many of them do not currently offer them to the public.


A: Okay. I'll put "DIY pension" on the Naughty Phrases List, along with "freehold house" (which I never used anyway, but some wicked readers did) and (dare I say it again?) "Pom".

I've been using "DIY pensions" to distinguish the annuities people set up for themselves from NZ Super and workplace super schemes, which the Government or an employer sets up.

If you buy your own annuity, you have lots of control over it, and can choose from a range of features. In that respect, you do it yourself.

Still, any annuity of the type we're discussing here works only because your money is pooled with lots of other people's money.

Some of those people die soon after buying their annuity, some live on for many years. The insurance company can cover the centenarians because it has done nicely, thank you, out of those who popped off quickly.

Your idea of a DIY pension where the person tries to use up their own capital but might end up with too little or too much doesn't qualify as an annuity at all, in my book.

It is actually, quite simply, the way many people handle their retirement savings.

And - because of the weaknesses that you point out they would probably be better off with a real annuity set up by "the appropriate tradespeople".

Definition confusion abounds. Perhaps we should all just stick to "annuity" from now on.

As far as your P.S. is concerned, AMP Life, Colonial, Fidelity Life, Royal & SunAlliance and Tower all offer annuities. And Coronet Life plans to enter the market later this year. That's not a bad line-up.

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