I’ve come across lots of rules about how much money you’ll need for a happy, comfortable retirement. And all sorts of numbers, and all sorts of ways to calculate them. When I saw what colleagues of mine came up with, about what it really means to be rich, I loved the simplicity of their concept.
Wouldn’t it be wonderful to be able to say “I’m rich!” – and mean it? Read on.
In 2011 I was delighted to be invited to write the foreword to a book called Someday Rich by former colleagues of mine, Tim Noonan and Matt Smith (published by John Wiley). I would love to have written the book, but I wouldn’t have done half as good a job. The book is addressed to financial professionals (“advisors” in American parlance). It’s written by veterans in the business of individual financial planning and of helping those professionals in two ways: how to do more sensible things for their clients and how to run an efficient practice. It taught me a lot of things about financial professionals that I didn’t know.
Here’s an extract from my foreword. It deals with two things. First, what does it mean to be rich? And second, how should I interact with my professional?
I think you’ll find it consistent with the “informed consumer” notion that I set out in Post #2. Here’s the extract.
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I’m not an advisor, I’m a client. Of course I want my advisor to be successful; the relationship won’t last otherwise. But what that takes, I don’t know. The authors do, and that’s a big part of this book.
For my part, I start with some questions.
Am I rich? (I use “I” to mean my wife and me together: we’re an indivisible unit.) I like the authors’ definition of rich – it’s not an absolute number, it just means that I’ll have something to leave after I’m gone. If so, my assets will support my lifestyle for as long as I live. And that will be a huge relief to me, and a wonderful achievement. The whole book is based on that as its fundamental premise. Good!
The focal point of the authors’ assessment of richness is based on a measure that technicians have long used in defined benefit pension plans: the funded ratio. First, calculate how much money, how large an asset base, it will take to support the client’s lifestyle. (They show you how.) What proportion of that amount do the client’s actual assets represent? That’s the funded ratio. Above 100% is rich, below 100% requires action. Well, above 100% also requires action, but there’s a clear psychological dividing line between striving for security that you don’t yet have, and buttressing security that already exists.
What’s my role in all of this, as the client? I need to understand myself: my lifestyle, my goals, my psychological make-up, my decision-making quirks, how I am likely to react to good times and bad. I don’t need to know as much as the advisor. I don’t need to be able to create the advice myself; I do need to know enough to assess the advice I’m given, and challenge it. And then, when we agree on a plan and its implementation, I have to share responsibility for its acceptance. This is a partnership.
There’s homework to be done. This book gives me the education and the tools, including fascinating insights into different human temperaments. I don’t just want a good advisor; I also want to be a good client. As far as the relationship is concerned, I’m glad to find that my needs and goals need to be the focal point of the advisor’s advice and actions. I don’t want a conflict of interests. All of that becomes clear.
OK, now I’m ready. Talk to me, discuss with me, plan with me, advise me, implement my plan, monitor progress with me. As Dr Frasier Crane used to say in the TV series Frasier: “I’m listening.”
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That’s the extract.
I’ll discuss your personal funded ratio and how to calculate it in some detail in later posts. For now, all that’s necessary is to note that it’s a rough and quick way to give you an indication of where you stand relative to income security after you retire.
Let me also take the opportunity to introduce the notion of three pillars. Techies, such as retirement professionals, think of your security as built on a structure that is supported by three pillars.
Pillar 1 is the most general: the post-work arrangements for all members of a society. Think of Social Security in the USA, the state pension in the UK, the Dutch AOW pension, the Canada/Quebec Pension Plans and Old Age Security, age pensions around the world, that sort of thing. Pillar 3 is the most personalized: the post-work arrangements arising from an individual’s own savings. What’s the middle one, Pillar 2? It’s the set of arrangements arising from employment: the workplace pension plans, schemes, funds (names vary around the world) that are established for the benefit of employees of an enterprise or for a connected group of enterprises, like all members of a union or all enterprises in an industry.
We never think of some of them, particularly those arising from Pillar 1, as part of our personal wealth. But they all contribute to our post-work security. And so all of them will be relevant in discussing our personal funded ratio. But that’s a discussion for another day.
Takeaway
If your assets are enough to support your lifestyle for as long as you live, with something to leave after you’re gone, you’re rich.
6 Comments
I have written about retirement planning before and some of that material also relates to topics or issues that are being discussed here. Where relevant I draw on material from three sources: The Retirement Plan Solution (co-authored with Bob Collie and Matt Smith, published by John Wiley & Sons, Inc., 2009), my foreword to Someday Rich (by Timothy Noonan and Matt Smith, also published by Wiley, 2012), and my occasional column The Art of Investment in the FT Money supplement of The Financial Times, published in the UK. I am grateful to the other authors and to The Financial Times for permission to use the material here.
“If your assets are enough to support your lifestyle for as long as you live, with something to leave after you’re gone, you’re rich.” My initial reaction was to think: “That’s so simple, I could have thought of that.” But that only demonstrates the elegance of the way Don has expressed this. He has answered a hard question with a simple answer that we can all understand (and that I hope will be part of the basis he builds on to answer some of the other questions).
Thanks, Richard. Both the concept and its elegant expression come from Matt and Tim. It hit me the moment I saw it, because it’s simple yet profound, something anyone can remember. Yes, it will be the basis for assessing where we stand financially, in future posts.
“If your assets are enough to support your lifestyle for as long as you live, with something to leave after you’re gone, you’re rich.” – beautifully described!
However!~!~!~!~!
How does one describe one’s “lifestyle”? Before retirement, I started life in a different country with my wife, 2 children, 3 suitcases and $100. Our lifestyle was in accordance with our financial situation.
By the time I had managed to start my career, buy a house, pay the mortgage, and save a little – our lifestyle became a little, but not much more, different – once again in accordance with our financial situation.
Then came Universities for our children – marriages – more expenses – but again manageable – and our lifestyle changed again with our financial situation.
Now that I am retired, with some savings, I have to ask myself – Are my assets enough to support my lifestyle and how much will I have to leave my children so that they can have the lifestyle of their wishes?
This makes me smile as I wonder – what is my lifestyle? Do I want to live comfortably with the basics – food, shelter, and occasional holiday, etc – or am I able to “change my lifestyle” and travel at least once a year – maybe twice a year – life is short and there is so much in this world to see!
Once again, I have to adjust my lifestyle to my financial situation.
But regardless of all the good days and bad, regardless of all the different lifestyles – I agree with Don – Happiness is the key! I have been blessed with a wonderful wife, wonderful children and wonderful grandchildren – and my goal is to continue my lifestyle to suit my Happiness – what better lifestyle can once ask for? Thanks for your blog – very interesting , very informative and I look forward to your weekly updates
Thanks, you have made some profound philosophical points. We experience multiple lifestyles in our life. What we strive to achieve eventually is to have the flexibility, the potential, to try out something we expect to enjoy, and see if we can afford it. It’s that freedom that is really our goal, whatever lifestyle we choose as its expression. In your case you have a lot of prior experience, and it’s up to you and your wife and family to discuss and identify what you’d like to do in the future. To most of us this doesn’t come naturally, so in a future post I’ll try to identify online places that help us look into our own hearts. I’ll also show how to make a rough calculation of what you can afford. And finally, permit me to congratulate you on recognizing that it’s not primarily about money, it’s primarily about happiness, and money is only a means to an end. I wish you much joy!
This might be one of the toughest aspects for people to understand. I was told when I entered my career that my goal should be to have a million dollars in the bank when I retired. This would maintain the life style I desired. In fact, if I could do this before I reached the age of 65, I could actually retire earlier. Of course, when I started my career, interest rates were at 9% — as a result, on a million dollars, I would be earning somewhere close to $90,000 a year. With my first year’s salary at $5,000, this sounded great to me. Today, a million isn’t what it use to be. The definition of “rich” can also change with the times.
One of the most useless exercises I did was about 10 years ago. I created a Net Worth Statement. I put down on paper all my assets and then subtracted all my liabilities. The “net” did not indicate I was “rich”, by my definition, however, I was not also embarrassed by the number. I put the sheet in the draw and came back to it two weeks later, ripped it up as providing no relevant information, and moved on. My next sojourn was to create a Cash Flow Statement. The surprise here was that my assets actually moved into the liability column — anything that was going to take my money in retirement was a drain on my net worth. Unfortunately, I had to put my grandkids on the liability side (they did not make it as an asset on my Net Worth Statement, as I was not able to sell, however, I have found they cost me more than my kids.
Thanks for the insights! Through the humour, though, I’d like to suggest that a combination of your two worksheets might be useful, if you were to compare your net worth with your desired cash flow. Tell me what you think of the idea when you see my “personal funded ratio” notion in a future posting.