Safe as houses?

December 14th, 2011

It has been fairly well documented in recent years that a future pensions crisis is in store for the UK given the reduction in the number of final-salary pension schemes, the effects of the financial crisis on investment returns, and (more pertinently) the fact that most of us do not save enough towards our retirement.

A recent survey highlighted a frightening statistic that UK adults need to save, on average, £10,300 every year in order to ensure they plug this gap and have an adequate income in retirement, with the ‘pensions gap’ in the UK now the worst in Europe*   This is against a current backdrop of economic uncertainty,  and wages failing to keep pace with a rising cost of living (with inflation running at over 5%) –  Inevitably, many people are focusing on simply on making ends meet and saving (for retirement or otherwise) currently looks like ‘luxury’ expenditure.

The survey also highlighted that middle-income earners are particularly likely to feel the pinch, with a significant element of the gap comprising individuals who are close to retirement and who will need to consider utilising non-pension assets.  The bad news is that, on average, income from such assets is only likely to provide approximately somewhere between £350 and £1,100 per annum* with many people not realising how little income they will be able to generate from other elements of their wealth.

One common objection often made against pensions is that alternative methods of saving for retirement offer an adequate (or better) solution – In particular many people put off saving more towards retirement as they see their home as a valuable, steadily appreciating asset which can be used to release funds to use for this purpose, negating the requirement for making substantial further provision elsewhere.

It is important to consider how realistic it really is that your home will be able to support you in retirement:-

1.  Property prices are not guaranteed to keep rising

The average UK house price in September 2007 was around £181,933 – However, the average price was just £151,987 in April 2009, which was a fall of nearly £30,000 (or over 16%) in just over 18 months**   Regionally many people may have seen even bigger falls in the value of their main asset over that period.

Whilst, before the recent economic turmoil, we had enjoyed a decade of rising property prices there have also been long periods where prices have remained relatively flat or even fallen.   Notably, Bank of England Monetary Policy Committee member David Miles recently stated that the housing market is “unlikely” to ever recover from the financial crisis and that it may actually prove economically beneficial for fewer people to own property (Source: Daily Telegraph)

Whilst price volatility over the longer term may appear favourable this is of scant compensation if the timing of your retirement coincides with a lull in property markets.   Regardless of this, property is an illiquid asset and (if there is an absence of other suitable means of releasing equity) there is no guarantee that selling to downsize will be quick or easy.

2. The numbers don’t stack up

Lets assume a house price of £200,000 (marginally above the national average) which, based on current annuity rates (the amount of pension you could buy with that amount) would give a 65 year old male £240 per week* – doesn’t sound too bad does it?

However this assumes a level pension which may not keep pace with inflation. Remember that RPI inflation is currently running at around 5% and pensioners are often the worst hit in high-inflationary periods as typically it is the items such as fuel and food which see the highest rises.  Assuming the same £200,000 is available to buy a pension guaranteed to rise in line with RPI this would result in the same 65 year male receiving just £150 per week*

Of course, this is also academic, as we all need somewhere to live.  In reality it is just not going to be practical to utilise the full value of this asset to generate an income. So, assuming we could release 50% of the value (either through downsizing or equity release), following the example above this would result in generating an inflation-proofed income of just £75 per week*

3.  Consider the practical issues

It is easy to focus on the numbers, but what about the practical issues?  We all need somewhere to live when we retire and there are a number of important considerations in respect of the ‘property as a pension’ idea.   Most importantly, your property first and foremost is your home – Would you really want to downsize?   For example, you may want to keep a large garden for grandchildren to play in, or when you actually come to trade-down, the properties you find you can afford may be in an area you don’t like – You may find you simply don’t have the choices you would have had with a proper retirement nest-egg

Summary

Whilst non-pension assets can form part of financial planning for your retirement, hopefully the above gives some food for thought in respect of how much you can realistically expect by relying solely on your home as a pension .  It is important not to ‘put all your eggs in one basket’ and your home – regardless of house price inflation – should not be a substitute for a genuine financial plan to save adequately for retirement.

Importantly saving for retirement does not necessarily just mean pensions –  Other tax-efficient vehicles such as ISAs can also have their place.   The key, however, is to understand and quantify your own ‘pension gap’ and look at putting an action plan in place as early as possible – We can help you with this process and explore the options for planning for a more financially secure retirement.

*     Source: www.aviva.com/europe-pension-gap/downloads/regional_uk.pdf Please note that the figures quoted in this article were in Euros and we have converted then to assuming an exchange rate of 1 GBP=1.19252 EUR

**   Source:  www.landreg.gov.uk , taken from House Price Index – Custom Report 01/06 – 09/11.

*** Figures based on Pension Annuity Comparative tables at www.moneyadviceservice.org.uk Please note that these figures are before deduction of any income tax and are only approximations –  The amount of income you could buy would depend on annuity rates prevailing at the time.

**** Figures obtained from Nationwide’s HPI calculator

The value of your investment can go down as well as up and you may not get back the full amount invested

Levels and bases of and reliefs from taxation are subject to change and their value depends on the individual circumstances of the investor