Key Post Does an ARF negate the need to lifestyle your pension plan?

Eireog007

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From the research I’ve done so far the prevailing wisdom in regards to pension plans is to lifestyle them by reducing your exposure to equities as you get closer to retirement.

However if your plan is to move those funds into an ARF upon retirement does that negate this need? Except for perhaps maintaining a section of your portfolio in cash as outlet valve to be accessed should the equities markets drop instead of drawing from your equities portion when the market is in decline.

Or am I missing a beat here and you need to lifestyle leading up to the transfer to an ARF and after that you can become slightly more adventurous again?
 
The life styling concept is most appropriate where you plan to buy an Annuity at retirement.
However if you plan to buy an ARF with the residual fund (after taking the lump sum), then lifestyling (gradually reducing the risk profile as you approach retirement) may not be that sensible. It really all depends on the proposed risk profile you intend to adopt for the ARF.
If you are happy to adopt say a “level 3 or 4” risk profile (similar to a Managed Fund) post retirement for the residual 75% of the retirement fund, then it probably makes little sense in transferring you fund into all Cash in the run up to retirement.
Life styling in the run-in to retirement might be a consideration if you are more focused on maintaining the fund value in order to secure the 25% lump sum or simply reducing the investment risk in order to secure the overall fund.
It is always possible to reduce the risk profile in the run-in to retirement without fully going to Cash.

In my experience retirees tend to be more risk averse than younger investors (generally), but if you are clear what risk profile you will adopt for the ARF then maybe adopting a similar profile in the run-in to retirement might be a reasonable strategy.

Hope this helps.
 
The life styling concept is most appropriate where you plan to buy an Annuity at retirement.
However if you plan to buy an ARF with the residual fund (after taking the lump sum), then lifestyling (gradually reducing the risk profile as you approach retirement) may not be that sensible. It really all depends on the proposed risk profile you intend to adopt for the ARF.
If you are happy to adopt say a “level 3 or 4” risk profile (similar to a Managed Fund) post retirement for the residual 75% of the retirement fund, then it probably makes little sense in transferring you fund into all Cash in the run up to retirement.
Life styling in the run-in to retirement might be a consideration if you are more focused on maintaining the fund value in order to secure the 25% lump sum or simply reducing the investment risk in order to secure the overall fund.
It is always possible to reduce the risk profile in the run-in to retirement without fully going to Cash.

In my experience retirees tend to be more risk averse than younger investors (generally), but if you are clear what risk profile you will adopt for the ARF then maybe adopting a similar profile in the run-in to retirement might be a reasonable strategy.

Hope this helps.

Thanks Conan that was very helpful indeed. Assuming you want to take your tax free 25% or 200k on retirement and then moving the remainder into an ARF. Does this mean you cash out the value of your current portfolio that you are in and then buy new shares etc in a completely new portfolio or can you move all shares/commodities etc to the ARF as is?
 
Interesting question

I enquired about this before
And recall yes you have to cash out unfortunately
But experts can confirm

What approach to take take in terms of equity allocation

Let's say towards end of career 50% cash 50% equities

Take the 25% cash

Then invest the remaining as before
Now it's one third cash, two thirds equities

But can be whatever split desired since it's all cashed in anyway
 
The ARF does change things in terms the need to lifestyle but it’s not that straightforward.

Sequencing of returns is key.

The problem is that an ARF generally isn’t added to. If markets are weak in the early years it has a greater effect as you’re withdrawing 4/5/6% which means the withdrawn amounts never have a chance to recover.
 
Interesting question

I enquired about this before
And recall yes you have to cash out unfortunately
But experts can confirm

What approach to take take in terms of equity allocation

Let's say towards end of career 50% cash 50% equities

Take the 25% cash

Then invest the remaining as before
Now it's one third cash, two thirds equities

But can be whatever split desired since it's all cashed in anyway

That would seem to say that you do need to lifestyle your pension plan as you need to ensure the value remains high in advance of you buying the ARF.
 
The ARF does change things in terms the need to lifestyle but it’s not that straightforward.

Sequencing of returns is key.

The problem is that an ARF generally isn’t added to. If markets are weak in the early years it has a greater effect as you’re withdrawing 4/5/6% which means the withdrawn amounts never have a chance to recover.

Well if you start off the ARF with a 3 year cash section to draw down from in case of a poor start equity wise then you could wait for the markets to return to parity couldn’t you?
 
Good question eireog. You're spot on in saying that lifestyling is largely irrelevant if you plan to ARF your retirement fund. It's not totally irrelevant, as you should aim to move towards your post retirement strategy (which may differ from your pre retirement strategy) and there is the lump sum element to consider.

However, it doesn't automatically follow that you should be targeteing cash for your lump sum element as this will depend on what you intend to do with the lump sum. To the extent that you are planning to spend it at or close to retirement, targeting a cash amount is the best option from a risk reduction perspective. But if the lump sum is substantial, you may well be planning to invest a significant proportion rather than spending it straight away.

For that part of your lump sum, the strategy should be similar to what you consider appropriate for the non lump sum element. However, it might need to be tweaked to allow for differences in tax treatment between ARF money and money that you have received tax free and are investing outside an ARF environment.
 
There are those who would suggest the cash allocation should be higher than 3 years.

Well I simply used the three years based on reading that the average time from major market correction downwards to equities returning to parity is approximately 3 years. That is something that can be adjusted closer to the time.
 
Good question eireog. You're spot on in saying that lifestyling is largely irrelevant if you plan to ARF your retirement fund. It's not totally irrelevant, as you should aim to move towards your post retirement strategy (which may differ from your pre retirement strategy) and there is the lump sum element to consider.

However, it doesn't automatically follow that you should be targeteing cash for your lump sum element as this will depend on what you intend to do with the lump sum. To the extent that you are planning to spend it at or close to retirement, targeting a cash amount is the best option from a risk reduction perspective. But if the lump sum is substantial, you may well be planning to invest a significant proportion rather than spending it straight away.

For that part of your lump sum, the strategy should be similar to what you consider appropriate for the non lump sum element. However, it might need to be tweaked to allow for differences in tax treatment between ARF money and money that you have received tax free and are investing outside an ARF environment.

Thanks Homer it’s always good to know I’m not just asking stupid basic questions.

If you need to sell all shares etc when removing the remaining 75% to then buy into an ARF the surely you should want to remove as much risk as possible in the lead up to buying the ARF to avoid being caught in a downturn?
 
If you're not planning to hold any shares (directly or indirectly) post retirement, then I agree that it makes sense from a risk reduction perspective to reduce your equity exposure in the lead up to retirement.

But that presupposes that you intend following a zero equity approach retirement. While everyone is free to invest as they see fit, adopting such an approach is likely to result in fairly low post retirement returns that may not be sufficient to provide the level of income (including capital drawdown) that is required to sustain your desired lifestyle.
 
If you're not planning to hold any shares (directly or indirectly) post retirement, then I agree that it makes sense from a risk reduction perspective to reduce your equity exposure in the lead up to retirement.

But that presupposes that you intend following a zero equity approach retirement. While everyone is free to invest as they see fit, adopting such an approach is likely to result in fairly low post retirement returns that may not be sufficient to provide the level of income (including capital drawdown) that is required to sustain your desired lifestyle.

I would most definitely intend on holding equity post retirement. I would see the ideal situation as holding a cash percentage to act as a safety net during a downturn period and the rest in a moderately volatile portfolio to use the yearly interest as the required 4% drawdown.
 
Interesting question

I enquired about this before
And recall yes you have to cash out unfortunately
But experts can confirm

Experts were on holidays so you'll have to make do with me. ;) I can confirm - Yes and No.

If you are in an insured fund pre-retirement, e.g. a pension policy with New Ireland investing in their Managed Fund and you want to have a New Ireland ARF also investing in their Managed Fund post-retirement, you do cash in your units in the Managed Fund and buy new ones.

If you're in a self-administered product pre-retirement, holding shares and you want to move into a self-administered ARF investing in the same shares, it is permissible to move assets from one product to the next "in specie", i.e. without selling them and buying them again. This is commonly used where a property is involved and the client is happy with the property and the tenant. It is possible to move a property from a pre-retirement vehicle like a Personal Pension or PRSA to a post-retirement vehicle like an ARF. Saves on transaction costs.

Regards,

Liam
http://ferga.com
 
Experts were on holidays so you'll have to make do with me. ;) I can confirm - Yes and No.

If you are in an insured fund pre-retirement, e.g. a pension policy with New Ireland investing in their Managed Fund and you want to have a New Ireland ARF also investing in their Managed Fund post-retirement, you do cash in your units in the Managed Fund and buy new ones.

If you're in a self-administered product pre-retirement, holding shares and you want to move into a self-administered ARF investing in the same shares, it is permissible to move assets from one product to the next "in specie", i.e. without selling them and buying them again. This is commonly used where a property is involved and the client is happy with the property and the tenant. It is possible to move a property from a pre-retirement vehicle like a Personal Pension or PRSA to a post-retirement vehicle like an ARF. Saves on transaction costs.

Regards,

Liam
http://ferga.com

Thanks for that LD, Just so I make sure I have this correct if I set up my pension with an active managed fund like the Prisma series or a passive global index (both zurich products as i have their website open currently) then I would have to cash in those shares when moving to an ARF but if I set up a self managed fund where I choose any stocks or bonds etc personally then I could transfer those assets to an ARF once I retire?
 
Would it make sense that when you cash in your pension fund,to put it in cash and then drip feed it into equity funds over a year or two in case of a down turn?
 
Would it make sense that when you cash in your pension fund,to put it in cash and then drip feed it into equity funds over a year or two in case of a down turn?
Drip feeding money into equities (sometimes called Euro cost averaging) as opposed to lump sum investing is a form of market timing - you're just deferring the risk (and potential reward) of investing in equities. On average, investing as soon as you are in a position to do so achieves a better return.

A better approach, in my opinion, is to decide your allocation to risk assets (equites) and "safe" assets (cash and bonds) in advance based on your need, willingness and ability to take investment risk and then executing your plan accordingly.
 
The original lifestyling options came under criticism because they shifted a policyholders funds to bonds automatically, no matter what the bond market was like.

With the introduction of the ARF, companies came up the the ARF lifestyle option where 75% of it would stay in a balance fund and the other 25% would go to cash to project the tax free lump sum. I always thought this was nonsense as the lump sum is a percentage of the entire fund, so if the Balanced element fell by 30%, the lump sum payable would decrease too.

Personally, I believe that clients should have an investment strategy they are comfortable with and stick with it all the way through and not to bother with a lifestyling strategy. But this is where emotions come into play. The tax free lump sum is sacrosanct and people want to protect it as much as they can. People are perfectly willing to forgo potential growth to ensure that the lump sum doesn't fall in value. They are happy to transfer to cash, even if it means they buy back into the market at a higher price when they start investing again in their ARF.

On a point Liam made about having to sell out of the pension and buy again in the ARF, it's not a cost to the client anymore. In the past, there was a 5% bid/offer spread where you sold less 5% of the value of the unit. That's gone in almost all cases. If you matured a pension, you will buy the same day you sell and at the same price.

And while I agree with Sarenco about Euro cost averaging, again, emotions have to be managed. If someone has a large fund, they may be willing to forgo some growth in order to feel more secure. While it is my job as an advisor to explain to someone that they are better to get their money working for them immediately, there's no point in having a client who is staying awake at night with worry.

I mentioned before, I use a piece of software called Timelineapp , which shows how successful a withdrawal strategy would have been going back to 1900. I can pick the asset allocation, number of years and withdrawal rate. Over a lenghty period of time (which an ARF is), most situations are successful. A key aspect to making your money last is to adjust your withdrawal with the market. As most ARF holders make withdrawals as a % of the fund, this is automatically done.


Steven
www.bluewaterfp.ie
 
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