The final five years before retirement are often some of the most important years in the financial planning journey, as decisions made during this period can have a profound impact on the sustainability of one’s retirement income, the efficiency of one’s tax position, the liquidity available after retirement, and the flexibility one has later in life. In our experience, this pre-retirement window is where good planning can make an enormous difference, but it is also where we see clients making avoidable mistakes, often with long-lasting consequences.
One of the most common mistakes we see is leaving retirement planning too late. While they may have spent their working lives diligently contributing towards their retirement future, many never pause to ask whether their accumulated capital is sufficient to support the lifestyle they envisage. By the time they are five years from retirement, the margin for error is much smaller, and there is less time to correct underfunding, restructure investments, create liquidity, reduce tax inefficiencies, or adjust lifestyle expectations. Ideally, the five years before retirement should be used to stress-test one’s retirement plan, model different income scenarios, and understand exactly what level of drawdown is sustainable.
A further mistake is assuming that retirement from work and retirement from one’s retirement annuity need to happen at the same time. Remember, while a retirement annuity can generally be accessed from age 55, there is no requirement to retire from the RA simply because one has stopped working. For some clients, leaving the RA invested for longer can be an effective strategy, particularly where they have other sources of income or sufficient discretionary capital from which to draw. For others, there may be good strategic reasons to retire from the RA, such as creating income, accessing a permitted lump sum, restructuring the investment, or improving estate and tax planning. The point is that the decision should be intentional rather than an automatic step following retirement from one’s employment.
Another area where clients are often caught off guard is understanding what they can actually do with their retirement fund proceeds – with the reality being that retirement fund legislation limits the options available to investors. Generally speaking, a portion may be taken as a lump sum, subject to the applicable tax rules, while the balance must be used to secure a retirement income, typically through either a living annuity or a life annuity. Understanding these options well before retirement is essential, as the choice between a life annuity and living annuity has far-reaching implications for income certainty, investment risk, flexibility, estate planning and legacy.
Sequencing risk is another danger that is often underestimated in the years leading up to retirement. This refers to the risk of experiencing poor market returns either shortly before or shortly after retirement, at the same time as one begins drawing an income from the portfolio. The order in which returns are experienced matters more than many investors realise. For instance, two retirees may earn the same average return over time, but the retiree who suffers negative returns early in retirement while simultaneously drawing income may experience permanent capital damage from which the portfolio struggles to recover. This is why the investment strategy in the final five years before retirement should not be managed in isolation – but should rather be built around the expected income strategy, planned drawdown rate, availability of discretionary capital, tax position and liquidity needs.
At the same time, many investors make the mistake of investing too conservatively too soon. Understandably, as retirement approaches, people become more protective of their capital and more anxious about market volatility. However, for many retirees, the retirement investment horizon remains 20 to 30 years – meaning that inflation remains one of the greatest risks to long-term financial security. While moving capital into cash or low-growth assets may feel safe in the short term, it can materially reduce the portfolio’s ability to sustain income over time. Remember, the objective is not to avoid volatility at all costs, but rather to ensure that the portfolio is structured to manage short-term income needs while still allowing sufficient long-term growth.
Liquidity is another major blind spot that many pre-retirees face. In our experience, many clients enter retirement with the bulk of their wealth housed inside retirement funds, which can create practical challenges once they retire. While retirement fund capital is valuable and tax-efficient, it is not designed to provide unrestricted access to cash. Remember, once retirement fund proceeds have been used to purchase a living annuity, the retiree is limited to drawing an income within the prescribed annual drawdown limits, and cannot simply access additional capital for large once-off expenses such as home renovations, overseas travel, vehicle replacements, family assistance, or the costs associated with relocating to a retirement village. This can create enormous frustration where there is sufficient wealth on paper, but insufficient accessible capital in practice. For this reason, the five-year runway before retirement should be used to build appropriate discretionary liquidity outside of retirement funds, ensuring that larger capital expenses can be planned for without placing unnecessary pressure on one’s retirement income strategy.
This is also where capital gains tax (CGT) planning can play a valuable role. Where clients hold discretionary investments with unrealised capital gains, the years before retirement may provide an opportunity to realise gains gradually, make use of the annual CGT exclusion (which applies to net capital gains, not total proceeds), rebalance portfolios, and create a pool of accessible capital for retirement. While CGT harvesting should never be done in isolation or purely for tax reasons, when properly planned, it can help improve liquidity, reduce future tax friction, and ensure that retirement income does not have to be drawn exclusively from annuity structures.
Finally, retirement planning and estate planning are too often treated as separate exercises, when in reality they are deeply interconnected. As clients approach retirement, it becomes increasingly important to understand which assets fall into the estate, which assets pass by beneficiary nomination, how liquidity will be created for estate costs, and how surviving spouses or dependants will be provided for. Retirement funds, living annuities, discretionary investments, trusts, life policies and fixed property are all treated differently on death, and the consequences can be significant. Beneficiary nominations should be reviewed, wills should be updated, and the retirement income plan should be tested not only for the retiree’s lifetime, but also for the financial position of the surviving spouse.
Our advice is to treat the final five years before retirement as a strategic runway during which you can refine the plan, understand the available options, create liquidity, manage tax, and align investments with future income needs. That said, while not every retirement concern can be solved in five years, many costly mistakes can be avoided with deliberate planning. In our view, the best retirement outcomes are seldom the result of one big decision made at retirement; they are the result of a series of thoughtful, well-coordinated decisions made in the years leading up to it.
Have a fantastic day.
Sue
