Current economics mean that there could be a better focus for disposable income
Imagine telling your younger clients who are already diligently saving for their retirement, to stop immediately.
It may sound like terrible advice for an advisor or financial planner to give, but a new report suggests that, in the short term, there may be a better way for Millennials and Gen Zs to use their disposable income.
The 2024 Mercer Retirement Readiness Barometer considers the current economic environment, particularly higher interest rates, and concludes that those younger Canadians that are both saving for retirement and paying down debt would be better focusing on the latter for now.
The analysis found that a sample 30 year old who has $30,000 of non-mortgage debt who focused on paying down the debt for the next ten years before shifting to retirement saving, could retire one year earlier and with an extra $125,000 saved compared to if they continue to split their disposable income across debts and long-term savings.
It also reveals that it can take more than three times longer to clear the debt burden where both debt and retirement savings continue right though to when they are 65. They would also have less time to make larger contributions, meaning a longer period of saving before retirement.
This scenario assumes a $70K a year income, 5% of which is available for retirement saving and/or paying down debt, and a debt interest rate above their investment returns.
With an employer plan matching their contributions, the retirement savings could be $250K higher and the sample individual could retire two years earlier.
“Many people think that if they have not started saving for retirement by the time they are 40 they have failed,” says Jillian Kennedy, partner and leader of Defined Contribution and Financial Wellness at Mercer Canada. “This latest analysis shows us though, that if you are diligent about paying down debt as a priority, then later focus on saving for retirement, you may still have time to accumulate savings and you may actually end up in a better position at retirement. Paying off debt can be effectively saving for retirement.”
What about older clients?
The report also looks at whether older individuals could also make some smarter choices with their retirement savings.
Using an example of a 65 year old with $500,000 saved, Mercer’s analysis considered the benefit of buying a single-life annuity, given the higher interest rates today. It found that their retirement income could be $26,000 per year with a gain of $3,500 per year compared to investing in a retirement product that is vulnerable to fluctuation, given a conservative investor profile.
However, the report notes that as interest rates fall, as they are expected to do this year, the advantage of this approach dissipates. By the time the BoC cuts rates by 1.5% the impact of purchasing a single-life annuity will be negative to the tune of $1,700 per year.
