Dubai : Budget. Save. Don't overextend yourself. Invest for the future.
We have all heard these mantras, but many of us have either not really cared to follow them and often end up with skewed financial priorities and investments.
A life audit, another name for a financial review, is a way to keep us on track when it comes to our financial habits and using money effectively.
It is a much needed exercise for getting priorities right in our daily spending and for our long-term saving. A life audit should answer questions like: Am I overspending on living and holiday expenses and not saving enough for retirement.
And as we progress in our lives — from being single to married, to having children while also supporting a family back home; to earning more and buying a home —life audits become all the more important as or efforts at financial planning must keep pace with our changing priorities.
Each individual's circumstances and goals are different, but while it is hard to generalise, Steve Gregory, managing partner at Holborn Assets, suggests the following rule of thumb for a 30-year-old with young children. He suggests that the salary should be allocated along the following lines:
- 10 per cent savings for retirement
- 3 per cent for insurance including life insurances and income protection insurance
- 10 per cent savings for education planning
- 10 per cent for motoring
- 20 per cent for housing
- 47 per cent for living and holiday expenses
Of course it's impossible to do this if you are plagued by debt, so he advises allocating 20 per cent to debt repayment until it is paid-off.
If you are older, you need to apply more to retirement planning.
At 40, Gregory says, you would need to put 20 per cent of income aside for retirement; and at 50 years 30 per cent to have sufficient money to retire at 65.
Assuming the children are independent, he suggests:
- 30 per cent savings for retirement
- 10 per cent for insurance including life insurance and income protection insurance
- 10 per cent for motoring
- 20 per cent for housing
- 30 per cent for living and holiday expenses
And at 50, 30 per cent of income is required to have sufficient to retire at 65.
The allocation might then look more like this, assuming children are no longer dependent:
- 30 per cent savings for retirement
- 10 per cent for insurance including life insurances and income protection insurance
- 10 per cent for motoring
- 20 per cent for housing
- 30 per cent for living and holiday expenses
Headroom
Dan Dowding, managing director at Killik and Co Middle East, based in Dubai says one should look to save a minimum of 10 per cent of your gross income, but ideally significantly more, says Dowding.
"The ability or headroom to save depends on an individual's income and liabilities. Debt, while generally unavoidable if you want to own a property, is bad, and care should be taken to make sure that any debt an individual takes on is manageable, and that it is paid off as a priority," he adds.
In terms of outgoings, banks here have what is called debt service or debt burden ratio when giving out a personal loan, mortgage or car loan. The ratio ensures that the customer has the ability to comfortably pay the loan in equal monthly installments. The maximum permissible debt burden (considering all liabilities of the customer) ranges between 50 to 60 per cent.
"In addition to properly considering the merits of the loan deals available to him, while finalising the deal the customer should also consider this important issue of debt burden," said Suvo Sarkar, General Manager of Consumer and Elite Banking at National Bank of Abu Dhabi.
"Customers should always borrow within their means, and should ensure that even after the deduction of his monthly installments - he should have sufficient disposable income in hand to maintain the lifestyle he and his family are accustomed to."
He adds: "For a customer with a dependent family to support, the allowed set limits would be too high, and he should ensure sufficient income on hand so that he would be able to honour his commitments in the face of any unexpected obligations arising."
In terms of balancing one's liabilities, however, alarm bells would ring if 45 per cent of an individual's income is being used to cover a mortgage, even more so if it was an interest only mortgage, says Dowding.
"But this percentage very much depends on what that individual's other liabilities are.
Rather than putting numbers, James Thomas, managing director of Acuma Wealth Management simply says that it should worry anyone when liabilities become unaffordable.
If someone is spending 45 per cent on mortgages, well that may indeed be a huge amount of money, but if a person is comfortable living and saving on the other 55 per cent, then it's not such a big issue for that person, says Thomas. It becomes an issue when it impedes their other living expenses.
Out of proportion or skewed spending on one or two items during working life can have implications later in life, like having less to survive on. And that would mean a difficult retired life.
As Gregory puts it in good humour: "If you are overspending on motoring, you'll probably end up walking in retirement. Motor vehicles are depreciating assets and people fail to factor in the cost of depreciation when deciding if they can afford a new vehicle. A Dh200,000 vehicle is likely to depreciate by Dh100,00 over three years. That's Dh3,000 per month.
"If you overspend on housing, you'll probably be homeless. Property can be a wise investment if it's securing you a roof over your head. But it can also be the most unwise investment you dared risk, if prices fall and you end up owing the bank more than the property value, having lost your deposit and associated costs.
If you eat five-star hotel meals every day now, you'll survive on bread and rice in retirement. It's about lifestyle choices."
Simple maths of retirement planning
At the end of the day, a life audit is aimed at ensuring that you have enough to retire comfortably.
If you have a monthly income of 10,000 (in any currency) and save 10 per cent you would have (if investments grew at 10 per cent per annum.) a fund of 1,775,395 at age 60. That would buy a lifetime income of about 124,277 per year. However while it sounds a lot, inflation will have eroded the spending power enormously. The equivalent spending power in 30 years time will only be 62,000 if inflation is 2.5 per cent each year.
Once you start to draw your income, inflation will again eat away at your spending power. Retire at 60 and live to 90, and your spending power will fall by 50 per cent again. So to inflation link your income from retirement you would need to take much less than 62,000 equivalent starting income. Get started on saving 10 per cent per year now, and revise annually with pay increases and the hindsight of actual investment performance. You'll need the help of a competent financial advisor.
Have your say
Do you review your finances periodically? Have you started saving for your retirement? Tell us at readers@gulfnews.com
