Is 4% still the magic percentage today? Well, as you see, the answer depends on how you invest your money (the percentage of fixed income and variable income) and the years you want it to last. At this link you can see the study with updated data.
Life annuities: make sure you outlive your savings
If you’re not big on doing calculations, you can take out a product where the experts will do them for you and ensure that your savings will not run out for as long as you live. In other words, you always receive a monthly income. The name of this product gives a clear idea of what it is: life annuity.
An annuity is an insurance contract whereby the insurance company agrees to pay an amount to the insured person based on a starting capital, for as long as they live.
So that you understand it better, the basic operation of a life annuity is the following. Through an initial amount that you put in, the company uses actuarial techniques to calculate the periodic income that you can receive throughout your life and guarantees that payment until you die. It’s that simple.
From there, the contract can be completed with different clauses, since there are various types of life annuities depending on whether or not you want the unconsumed capital to go to your heirs or not, for example. Depending on elements like that and, of course, your age, and the initial capital, the amount you receive will be greater or less.
This is what a life annuity is in essence. Its advantage is that it ensures you will receive money for life, as well as certain tax benefits.
Specifically, a good part of the money you recover will be exempt from income tax (the later you draw out the annuity, the greater the tax advantage), as shown in the following table:
|Age when taking out the annuity
|Income subject to taxation
|Between 66 and 69
|Between 60 and 65
|Between 50 and 59
|Between 40 and 49
|Less than 40
In practice, this means that, if you withdraw the money from your investment funds, from a PIAS or from investments in stocks or bonds, a good part of the benefits you have generated will not be taxed if you receive them in the form of a life annuity.
The above tables do not apply when the annuity is set up with the money accumulated in a Pension Plan or a PPA (Insured Pension Plan), since these are considered to be income from work, and therefore not tax exempt.
Dividends: generate a periodic income
Another alternative for getting your money back or, rather, to ensure a regular income is to invest in stocks or bonds and periodically collect dividends or coupons, which is one of the most common variants of investment in the stock market or fixed income.
The dividend is the part of a company’s profit that it distributes among its shareholders, and some companies have a very clear policy in this regard. For example, the so-called dividend kings are US companies that have increased their dividends every year for at least 50 years.
With this formula, each year you are guaranteed to receive the income generated via dividends or coupons from the companies you have invested in, without actually having to sell your shares. There are even investment funds that follow this strategy, the so-called distribution funds, which distribute the dividends from the shares they hold in their portfolios among their participants.
The main drawback of this formula for ensuring a supplementary income is that it involves certain tax formalities if the assets are held by foreign companies, due to double taxation, and if you deal directly in shares, you will need knowledge and time to manage the portfolio.
Generating real estate income
Another way to divest your capital and ensure an income is to allocate part of your money to real estate investment. The most common formula would be to buy a house to rent out.
The drawbacks of this strategy are:
You will pay taxes when you get the money back and buy the house, as well as on the income you receive.
If you do it when you retire, you will (normally) have to buy the house without a mortgage.
This could pose a diversification problem, since you will usually only be able to invest in one or two apartments. What would happen if they stop paying you rent?
As a non-liquid investment (a house cannot be sold from one day to the next), it can be a handicap if you need more money than you get in rent, for whatever reason.
An alternative or complement to this strategy, or indeed any of those we have seen above, is to invest in REITs or Socimis. These are listed companies specializing in real estate investment and which, by law, are obliged to distribute the majority of their income in the form of dividends.
If you have a pension plan, think about it carefully
Finally, if you have a pension plan, it is important that you carefully consider how to retrieve your money because, depending on the formula you choose, you will pay more or less tax.
In short, you can redeem the plan in the form of capital (all at once), as income (little by little) or as a combination of the two. From a tax perspective, the second option is usually the most beneficial because pension plans are taxed as earned income -they are added to your state pension. As personal income tax (IRPF in Spain) is a progressive tax, if you withdraw everything all at once, it is easy to end up paying tax in the highest bracket.
In this article we explain the best option for withdrawing you pension plan and how it is taxed.