(Revised, Extended and Simplified)
Teachers at schools like Singapore American School enjoy financial benefits that our former Canadian, Australian, European or American colleagues in public school systems can’t capitalize on:
1. Our salaries are higher
2. Our taxes are lower
3. We have wonderful opportunities to travel to exotic places in our own backyard.
But I would argue that most public school teachers in their 50s and 60s are far better off financially, compared to Singapore American School’s teachers of a similar age.
There’s one reason for that:
Most of us fail to plan.
When a 60 year old Canadian public school teaching couple, for instance, decides to hang up their chalk, what do their financial assets look like?
1. Most will have a mortgage-free home
2. They’ll also likely have between $100,000 to $200,000 in investments
3. They’ll have a teacher’s pension
What should an international teacher’s goals be if he or she wants a comparable retirement?
1. They’ll probably want a mortgage free home
2. They’ll want to ensure that they have enough cash-flow to provide an income that’s similar to what a retired public school teaching couple would enjoy. In essence, they’ll need to “create” their own pension, and perhaps even “create” their own social security payments (considering that they may not have contributed to social security—if they’re Americans)
How do you plan for this?
If, upon retirement, you want to enjoy the same lifestyle that most public school teachers will enjoy (financially) then you have to identify what you’re missing.
In British Columbia, Canada for instance, a teacher who begins their career at age 25, and who teaches until they’re 60, will have taught for 35 years.
When adding their age (60) with their number of years of service (35) you would end up with a sum of 95. In British Columbia, when these two numbers combine to produce a sum of 90 or higher, the teacher is entitled to a pension that constitutes 70% of their average gross annual wage, when averaged over the previous 5 years (as long as the teacher is 60 years of age or older).
If a teacher’s pre-tax income over the previous 5 years averaged $68,000, then the teacher could enjoy a pension of $47,600 a year. And in British Columbia, adjustments would be made to cover the increased costs of living, over time.
It’s entirely possible that a teaching couple in British Columbia could have combined pensionable income amounting to $100,000 a year or more.
If an international teaching couple wanted an “income” of $100,000 a year, how much money would they need to have socked away in investments, if they were retiring today?
Roughly $2.5 million.
If they planned to retire in 2020 (nine years from now) how much money would they need to provide them with the buying power of $100,000 in today’s dollars? We can’t forget inflation.
That teaching couple, nine years from now, would require a portfolio of roughly $3.26 million.
Of course, these numbers are assuming that the international teachers want the upper range of what public school teaching couples in British Columbia, Canada could reap. Every pension system is different. And some international teachers would say, “I don’t need that kind of money to retire.” Fair enough. I don’t either.
But it’s important to see the big picture if you’re choosing to work overseas.
What’s your “number”?
It’s important to have a goal in mind: something to shoot for. We all teach with a “backward design” model and we understand the importance of having a “plan”. Before we start teaching a particular group of students, each of us asks ourselves an important question: “What do I want these kids to learn (or be able to do) by the end of the unit, or by the end of the year?”
Retirement planning is no different. We have to know how much we’ll likely need to live comfortably and how much we need to invest each year, to attain that goal.
Just working away for an entire career, and saving willy nilly, is like teaching an English class with a little bit of Spanish, a little bit of Science, Shakespeare tossed in whenever we feel like it, while sprinkling in some writing rules if we’ve read a nice, bedtime novel the night before.
A financial plan is like a teacher’s unit or yearly plan. It requires a step by step program.
Step 1. What amount would you like to earn as a pensionable “income”?
Step 2. What does that dollar amount equate to by the year you plan to retire – indexed to inflation?
Step 3. To generate that “income” how large should your investment portfolio be when you’re ready to retire?
Step 4. How much will you need to save annually to create a portfolio large enough to generate your desired annual income once you retire?
Here’s how the equation works.
Mr. and Mrs. Teacher want: $100,000 a year upon retirement (in 2011 dollars)
But Mr. and Mrs. Teacher are only 40 years old. By the time they’re 60 years old, that $100,000 won’t go very far, thanks to the ravages of inflation.
So they need to calculate the amount of income they’d need in the year 2031.
Nobody knows what levels of future inflation we’ll have. We can only use the past rates to estimate the future.
Over the past 90 years, inflation in the developed world has averaged slightly more than 3% annually. Let’s be safe, and assume that inflation will be 3.5% per year for the next 20 years. Of course, it could end up being higher or lower, but for this purpose, we’ll calculate future inflation at 3.5% annually.
Now Mr. and Mrs. Teacher need to figure out how much “income” they would need in 2031 (when they retire) to give them the same buying power that they’d get with $100,000 today.
An online compounding interest calculator would do the trick.
The following online calculator MoneyChimp is a nifty, simple tool for this:
- In the current principal space, I typed in the amount of income that the teachers would want, if they were retiring today.
- I left the annual addition at 0 because we’re just trying to figure out how much income would be needed in 2031, to give us the buying power of $100,000 today.
- I used 20 years to grow, since the couple plans to be working for the next 20 years.
- The interest rate I used was 3.5%, as a rough guess of what inflation might be over the next 20 years. As previously mentioned, this is very slightly higher than the 90 year historical average for developed countries, but we have had 20 year periods where inflation has been much higher.
The future value that you see ($198,978) represents the income you’d require in 2031, if you wanted the same buying power that $100,000 would give you today (assuming 3.5% inflation)
So how much money will Mr. and Mrs. Teacher need to provide $198,978 in annual income?
Studies show that if you want the highest chance of not running out of money as you age, the maximum amount that you should withdraw from your investments is 4% per year.
Keep in mind that if you do this, you will also likely be able to give yourself “raises” to cover inflation, and based on historical probabilities, you won’t likely run out of money.
- Since this number ($198,978) represents 4% of their total investment portfolio – the amount they can draw down to live on – we now have to find out what the total size of their portfolio has to be. To do that, take this number and multiply by 25.
In this case, the couple would require an investment portfolio size of $4,974,450 in the year 2031.
By selling 4% of this portfolio, they would be selling $198,978 annually. And each year, they could give themselves a 3.5% raise to cover inflation. For example, in the first year they would sell $198,978 to live off. And the second year, they would sell $205,942.23 to cover their living expenses. The teachers’ pensions in Canada (as they are in many countries) are indexed to inflation, meaning that there are increments over time to allow for the increased costs of living.
That figure of $4,974,450 might look daunting. And it is. It testifies how valuable public school pensions really are.
However, very few public school teaching couples would reap this kind of pensionable reward (earning $100,000 annually) because few teaching couples would have both partners each qualifying for the maximum benefit. For example, if one partner took some time off to raise children, they wouldn’t likely end up working long enough to attain a full pension. That said, the above example does accentuate how powerful public school pensions can be.
To attain a retirement “income” that is even close to what a public school teacher can earn from their pension, private international school teachers must be very careful with their money. Most importantly, they need a solid plan.
How much do you need to save annually?
Now that you have a financial goal, let’s see how much you’ll need to save to attain that goal.
First, let me provide a more modest scenario. Let’s assume that a 40 year old teaching couple at Singapore American School decides that they could retire well on a combined retirement income of $60,000 per year. At 40 years old, let’s also assume that their current investments (their investment portfolio size) amount to $150,000 and let’s also assume that they are looking to retire in 20 years.
Here’s their profile:
- Age: 40
- Amount they would like to live on in 2011 dollars: $60,000 annually
- Number of years to retirement: 20 years
- Assumed rate of inflation: 3.5%
- Buying power required for $60,000 today = $119,387 in 2031 dollars
Considering that $119,387 is the yearly “income” they would like to live on, they must determine what their investment account value would need to be in 2031 to provide that kind of annual cash flow, while ensuring that they never run out of money. Studies show that the maximum, safe withdrawal rate is 4%. Therefore, $119,387 needs to be 4% of what sum? To determine that sum, we multiply that number by 25.
- $119,387 x 25 = $2,984,675
This couple will need to acquire an investment portfolio of roughly $3 million by 2031.
As daunting as it may seem, it’s a very attainable goal. Let’s break it into small steps. Using the same scenario from above, we’ll use the moneychimp calculator to “play” with some numbers.
Click this link to open the Financial Calculator
or go to the Moneychimp calculator:
- Current principal:
Type in the amount of money you presently have in investments. If it’s zero, it’s zero. You have to start somewhere.
- Annual addition:
This is where you’ll have to “play” and “manipulate” the numbers, once you have plugged in the other two variables below. Throw in a few possibilities and look at the calculated dollar value, under “Future Value” on the MoneyChimp site. Does it match the amount that you desire, upon retirement? When it does, the number that you have plugged into the “Annual Addition” is what you should be saving on an annual basis. But of course, you will need to plug in the variables below, to view this number.
- Years to grow:
Estimate how many more years until you’ll retire.
- Interest rate:
Assumed rate of return: 8.5% annually
This is less than the UK markets/US markets/Canadian stock markets have averaged over the past 20 years, and it’s less than they have averaged over the last 90 years as well. So it might be a decent assumption, going forward. And we can always play with lower probabilities in case it isn’t.
The teaching couple in our scenario currently have $150,000 in investments. You can see, using the moneychimp calculator, that this couple would need to save between $42,000 – $43,000 per year in order to reach their desired portfolio value in 2031, of roughly $3 million.
So what do you have to save annually?
Important Questions to Consider:
- What would I want, in terms of annual income, if I were retiring today?______________________
- What does this equate to, considering 3.5% inflation, at the planned year of my retirement?______________________
- Considering that you’ll be selling 4% of your investment portfolio each year (while providing small raises for yourself to cover inflation) how much will your investment portfolio need to be worth when you retire?_______________________________
[projected future desired monthly income multiplied by 25]
- Based on your current portfolio size, and assuming a rate of investment return of 8.5% annually, how much will you need to invest each year to reach your goal? __________________________
- Based on your current portfolio size, and assuming a rate of investment return of 6% annually, how much will you need to invest each year to reach your goal?__________________________
- Assuming a future return of 8.5% annually, are you currently investing enough to reach your goal?_________________________________
- Assuming a future return of 6% annually, are you currently investing enough to reach your goal?_________________________________
If you would like to generate a slightly higher amount of retirement income, you could also hand your retirement portfolio (after you have grown it) to an insurance annuity. Do not use an annuity as a savings vehicle (no matter how hard an investment salesperson tries to convince you).
And never buy a Variable Annuity.
If you’re interested to see how you can derive income from an annuity (once you have already built your portfolio through a different investment vehicle) I recommend that you read Robert Wasilewski’s blog post on the matter, titled “Create Your Own Pension” . He’s a brilliant financial advisor with more than 30 years of experience—as an individual advisor, and as an institutional money manager. He also advises you to always keep your investment costs low.
Small Percentages Pack a BIG Punch
The difference between an annual future return of 8.5% vs. 6% is huge, as you saw from answering the questions above. That 1.5% lag may not sound like a lot, but over an investment lifetime it can decimate an account’s potential. Keep that in mind.
The fairest investment advisors don’t tend to travel around from place to place picking up business. Beware of traveling advisors, especially in the international teaching community. They’re expensive and they’ll try selling you products that benefit themselves first, with you a distant afterthought.
For an overall summary on saving and investing money, please read my article, The International Teacher’s Nine Steps to Financial Freedom.
And for a thorough, simple and far more entertaining read, there’s my book, Millionaire Teacher: The Nine Rules of Wealth You Should Have Learned in School. You can order it through Amazon, at the above link, or buy it directly from me. I’ll have copies available for Singapore American School teachers at the end of August, 2011.
My book will show you how to invest—while avoiding the expensive (detrimental) investment products sold by the majority of the world’s financial planners.
I’m definitely not against financial planners. If you read my book, I’ll guide you towards finding a good one.