Lee Oosthuizen

Certified Financial Planner®

A plan, not a fairytale


The wealth accumulation journey takes on many shapes and forms. People take different paths in life, ranging from corporate careers through to entrepreneurial endeavours.

Whether you make your money from farming, property, software development or one of the other numerous career options, the ultimate outcome is the same: cash in the bank. The decision of what to do with that cash is arguably even more important than the decision of how to generate it in the first place.

Step 1 is clearly to generate an income. Step 2 is to invest the fruits of your labour in line with a proper investment plan.

Investing is part science, part art. My passion is to be the guide on this journey.

I’ve written before about property investment (and especially the risks thereof) as well as the considerations around a family business. Now, I want to introduce some of the important concepts of retirement planning.

The usual suspects: RAs and pensions

The common retirement planning vehicles are retirement annuities (RAs) and pension funds, governed by the Pension Funds Act.

The fuss about RAs usually stems from the family elders, who have realised they don’t have the financial means to stop working and thus advise the younger members of the family to take out an RA to avoid that situation.

“You best get yourself a retirement annuity policy – Melinda’s husband had one and look at him, he’s sorted!”

Doesn’t that story sound familiar?

Unfortunately, a pension plus a RA just doesn’t cut it these days. Melinda’s dear husband probably worked for the same employer for 40 years and the company had a great pension fund in place which he is now enjoying the fruits of.

These days, ambitions and an ever-changing world means that people don’t just change jobs, they change careers several times in their lives! Employers seldom have pension funds. When they do, the employer contributions are often too weak to be solely relied on for retirement.

In order to rely on only the monthly contributions to RA and pension funds for your retirement, around 15% of your salary needs to be contributed every month. This assumes you start contributing from the age of 25. If you start later, the required percentage of salary increases quickly and it becomes extremely difficult to sacrifice a substantial percentage of income for retirement savings.

So, RAs and pension funds these days are incredibly important savings vehicles but are no longer the be all and end all when it comes to retirement planning.

There’s a famous line from Jaws that applies here – “You’re gonna need a bigger boat”.

The modern suspects: investment portfolios and side hustles

Let’s get side hustles out the way. These are sources of income, not investment decisions. These days, it feels like every young person has a side hustle in place, powered by social media and other affordable distribution channels.

Side hustles can be incredible sources of additional income. However, this article is about what to do with the money, not how to make it.

Investment portfolios include shares, property and anything else that is attractive from a risk-return perspective. When used effectively, they can bridge the gap between your pension fund / RA and what you actually need to retire.

This brings us neatly to the replacement ratio, which is the basis for a retirement plan. If you don’t have a target, you can’t have a strategy to get there.

How much do you need to retire?

The minimum replacement ratio is the percentage of your salary that you need to replace when you retire. The ideal replacement ratio is the percentage that you want to replace when you retire.

As I’ve written about before, only 6% of people can retire in a way that involves golf, yoga and Christmas with the grandchildren. The rest fall short on their replacement ratios.

Let’s assume that Kyle earns R50,000 per month after tax and all other deductions. Based on a solid understanding of his monthly budget, Kyle knows that he needs R30,000 per month to sustain his envisioned retirement lifestyle.

Critically, that R30,000 is in today’s money i.e. ignores the impact of inflation over the next 20 years.

Let’s unpack the maths:

  • R30,000 divided by R50,000 current income is a replacement ratio of 60%
  • If Kyle wanted R37,500 per month instead, that’s a replacement ratio of 75% (R37,500 divided by R50,000)

To calculate your replacement ratio, the first thing you need is a monthly budget. If you don’t have one, it’s critical that you put one in place ASAP.

Assuming you do have one, the next step is to delete or reduce the expenses that fall away in retirement. Once that is done, you have an idea of the income you require.

A good rule of thumb is a replacement ratio of between 60% and 75%, as in Kyle’s example above. Of course, in arriving at this ratio, I’m always open to a discussion with my clients. This is core to what I do.

The wealth accumulation plan

With the replacement ratio worked out, we can figure out whether you are on track to a sustainable retirement income. Without having this information, you’re simply shooting blindly at a target.

Failing to plan is planning to fail. This is a cliché for a reason.

Unfortunately, as discussed above, your pension fund and RA contributions probably won’t be sufficient. This is where an investment strategy comes to the fore. With professional assistance, assumptions can be made about the different levers that drive the success or failure of an accumulation plan.

I help clients calculate an expected replacement ratio based on existing investments, which can be compared to the required replacement ratio to see whether there is a shortfall. These shortfalls must be identified as early as possible, or you can easily be in the same situation as 94% of people who are unable to retire.

Examples of these levers include contribution rates, investment returns, inflation, taxes and life expectancy, among others. By changing the assumptions, we can estimate the expected replacement ratio.

Of course, one needs to be careful when doing this. It doesn’t help to change levers in a way that is unrealistic, pretending everything is fine when it genuinely isn’t. It is equally important to differentiate between levers outside of our control (like inflation) and those where we can take the steering wheel, like contributions.

Assuming that you can contribute 35% of your salary into a savings vehicle that earns 20% p.a. will look amazing on paper but will be impossible to implement. There’s no point in believing in a fairytale here.

I help my clients understand their position and change the levers that are in their control. When you stop worrying about things you can’t control, you’ll be amazed at what can be achieved by focusing on what you can control, especially when you have a plan  

What do you need to do?

At the very least, it’s a worthwhile exercise to work out your replacement ratio. How much would you need per month if you were to retire today?

If you’re curious to find out whether you’re on the right path to achieve that number, we should chat.

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