There’s a lot of discussion about interest rates – both here and overseas – at the moment. For some retirees higher rates are good news, while for others they can be extremely stressful. The key question is not what is happening in the short term, but how your decades of retirement may be affected.
This, of course, will depend upon your situation, so today’s article considers the effect of higher interest rates on three different retiree households – and their possible options.
First, let’s start with the ‘what’.
The constant coverage of rates in Australia makes them sound like something bankers make up. That’s not actually the case, of course. Interest rates are, at their most simple, the cost of lending or borrowing money, both nationally and globally. So the effect of higher rates will be heavily tied to the overall status of your assets – are you in the black or the red?
How much have rates changed
There’s no denying that, after years of stasis, the official rate is moving upward at a steady clip. The Reserve Bank of Australia (RBA) has lifted the official cash rate from 0.10% to 3.6% in 10 consecutive monthly rate increases. These increases are then reflected in retail or market rates, generally a full 2% above the official rate. This makes a big difference to those who were on a fixed rate mortgage (say 3% when official rates were 1% or lower). Many are now coming to the end of their fixed term loans and will need to renegotiate a loan with interest of 5.5 – 6.5%.
This might mean, on a $250,000 loan, interest-only repayments will move from $625 per month to nearly double that amount.
Better a lender than a borrower be?
But those who lend rather than borrow money are definitely better off. Whilst banks have been notoriously slow to pass on the benefits of higher rates to savers, they have increased in small increments, with a return of 4.5% widely available for fixed term investors.
How do these rate rises affect retirees? A tale of three households
Lesh (67) and Michael (69) are homeowners with no mortgage and a part-Age Pension. They are no longer working and have most of their savings (about $350,000) in cash, not super. They use this capital for holidays or unexpected purchases. They do not have higher outgoings when interest rates rise as they have no loans. They are receiving a 5% return on their cash which is more than they have for years. This amount is ‘deemed’ by Centrelink to earn 0.25% on the first $93,600 and 2.25% on the balance. This deeming rate is frozen until June 30 2024, so their pension is higher than it might otherwise have been.
BUT their cash investments are eroded by inflation (currently 7.8%). And because they had invested this money in cash when rates were barely 1%, their savings have not benefited from the magic of compounding over the past few years.
In short, Lesh and Michael’s savings are not keeping pace with inflation. They are also finding it difficult to cover their monthly outgoings. Their options are to consider a more aggressive investment strategy, to return to work at least part time, or to use some of the equity in their apartment for a retirement top-up.
Joanne and Albert are in their early 70s and no longer working. They, too, have a part-Age Pension and live on a combination of this and an Account-Based Pension, with $400,000 in the associated super fund (in balanced investments). They have a $900,000 home with a mortgage of $200,000. Interest repayments are variable, so they have been steadily rising over the past 12 months. They are currently paying 5.59%, again nearly double their payments before the succession of recent rate rises.
One more rate rise means Joanne and Albert will no longer be able to cover their outgoings. They do not have a re-draw facility on their loan. They are wondering whether they should use some of their super to pay off – or pay down – their home loan, but are unsure of Centrelink implications. They are happy to try to get work but again have no wish to lose their Age Pension entitlement. And they are also unsure if using the equity in their home is even possible when they have a $200,000 mortgage.
Renting in Hobart
Geoffrey is single, 80 and on a full Age Pension. He rents a small apartment in Hobart. His savings of $30,000 are in a cash account. The increase in interest rates means he earns a little more each month, but he doesn’t have the confidence to invest in a term deposit, so is only receiving 1.6% on his savings. The frozen deeming rates work in his favour to a small degree. With nearly half his pension needed to cover rent (even after receiving Commonwealth Rent Assistance) he is concerned he can no longer stay in his current home. The national rental crisis means that rents are increasing at a faster rate than he thinks he can manage. Covering increasing power bills is an added stress.
Geoffrey feels under attack from all sides. His adult children live overseas and he has no close relatives who may have been able to help with accommodation. He feels he will need to move a long way from the city in order to find something affordable, but worries that being on a full Age Pension means he will have trouble competing for properties with those who work. If he moves, he is also concerned about losing the community he values. As an ex-tradie, Geoffrey believes he might still be able to find some work, so taking advantage of the new Work Bonus limits is a possibility, as long as he earns extra income within the required time frames. He is also unsure if he is getting all the entitlements he should.
So what next?
As you can see from these three household situations, all of these retirees are affected by the continuing increases in interest rates. Some, on paper, seem more secure than others, but retirement is a long journey so it’s important to ensure you are maximising your savings at the same time as covering your bills.
There are quite a few options which could be used by Lesh and Michael, Joanne and Albert and Geoffrey. There are also different consultations for each of their different dilemmas.
Sometimes it can help to have someone to talk through some of these issues so if you have questions or would like another set of eyes on your finances and goals why not book an advice consultation with one of our financial advisers. The advice consultations provide general information that can help you to plan your retirement finances. Book an advice consultation now.
Or if you might have some more specific questions that you want help with to determine how an alternative strategy could affect your financial position and your ability to achieve your goals. We offer our financial adviser led strategy consultations on a range of topics. You join one of our financial advisers online where they assess your current situation and show you what an alternative option may look like. Click on one of the links below to book a consultation
- Retirement Forecasting (understanding more about your likely income in retirement and the options you have).
- Understanding more about super (using your super to improve your income in retirement).
- Maximising your entitlements (making the most of your financial resources and Centrelink)
- Understand impacts of your home mortgage (should you consider paying it off)