determining retirement needs a case study prepared by: chan ting, choi wang chi anny, fong fu tak...

DETERMINING RETIREMENT NEEDSDETERMINING RETIREMENT NEEDS

A CASE STUDYA CASE STUDY

Prepared by:Prepared by:Chan Ting, Choi Wang Chi Anny, Fong Fu Tak SimonChan Ting, Choi Wang Chi Anny, Fong Fu Tak Simon

Sum Pui Leong, Tao Kwok Lau Clement, Wong Chung Fai JosephSum Pui Leong, Tao Kwok Lau Clement, Wong Chung Fai Joseph

4th June 2008

CONTENTSCONTENTS

1. OBJECTIVE OF THE STUDY1. OBJECTIVE OF THE STUDY

2. THE CASE OF MR. WONG2. THE CASE OF MR. WONG

3. METHODOLOGY3. METHODOLOGY

4. THE NEED ANALYSIS AND THE 4. THE NEED ANALYSIS AND THE PLANNER’S WORKSHEETPLANNER’S WORKSHEET

5. PROPOSED SOLUTION AND OTHER 5. PROPOSED SOLUTION AND OTHER CONSIDERATIONSCONSIDERATIONS

6. CONCLUSION 6. CONCLUSION

1. OBJECTIVE OF THE STUDY1. OBJECTIVE OF THE STUDY

To identify the retirement needs of To identify the retirement needs of an ordinary Hong Kong businessman an ordinary Hong Kong businessman using the theoretical framework using the theoretical framework originated from North America, with originated from North America, with the objective of modifying the the objective of modifying the application for local planner. application for local planner.


Mr. Wong’s ProfileMr. Wong’s Profile Mr. Wong (age 48) is a Hong Kong citizen. He and his wife Mr. Wong (age 48) is a Hong Kong citizen. He and his wife

(age 45) own a small trading company. Mr. Wong as the (age 45) own a small trading company. Mr. Wong as the major shareholder. He draws a monthly salary of major shareholder. He draws a monthly salary of HK$85,000 as managing director of the company.HK$85,000 as managing director of the company.

They live in a 900 square feet flat in the Ho Man Tin area, They live in a 900 square feet flat in the Ho Man Tin area, purchased in 2003 at HK$4.8M with a car park included. purchased in 2003 at HK$4.8M with a car park included. With a 15 year mortgage, he pays a monthly installment of With a 15 year mortgage, he pays a monthly installment of HK$20,000. HK$20,000.

They have two children, daughter (age 17) and son (age They have two children, daughter (age 17) and son (age 14) are both currently studying in USA with Mr. Wong’s 14) are both currently studying in USA with Mr. Wong’s younger sister who is a U.S. resident. She receives younger sister who is a U.S. resident. She receives HK$20,000 each month from Mr. Wong for their tuition and HK$20,000 each month from Mr. Wong for their tuition and living expenses. living expenses.


Mr. Wong’s parents are both retired; his father is 75 and mother Mr. Wong’s parents are both retired; his father is 75 and mother 73 years old. They are living in a flat owned by Mr. Wong. The pro73 years old. They are living in a flat owned by Mr. Wong. The property is 675 square feet with an estimated value of approximatelperty is 675 square feet with an estimated value of approximately HK$2.8M. Mrs. Wong is a full time housewife and now concentray HK$2.8M. Mrs. Wong is a full time housewife and now concentrating in the caring of her mother (age 70) now. Her father died at ating in the caring of her mother (age 70) now. Her father died at age 60 because of brain tumor. ge 60 because of brain tumor.

As Mr. Wong is the sole income source of the family, he has a terAs Mr. Wong is the sole income source of the family, he has a term life insurance policy with coverage of HK$5 million for his liabilm life insurance policy with coverage of HK$5 million for his liability. His trading company provides for medical insurance for the eity. His trading company provides for medical insurance for the entirely family.ntirely family.

Apart from the two properties in Mong Kok and Ho Man Tin, Mr. Apart from the two properties in Mong Kok and Ho Man Tin, Mr. Wong is maintaining a constant cash level of HK$200,000 in his saWong is maintaining a constant cash level of HK$200,000 in his savings account for contingency use. He also has equities with a nevings account for contingency use. He also has equities with a net asset value of HK$300,000 as long-term investment. His current t asset value of HK$300,000 as long-term investment. His current MPF balance is HK$265,000. MPF balance is HK$265,000.


Salary $ 1,020,000. 98.08%

Dividend $ 20,000. 1.92%

Total Income $ 1,040,000. 100.00%

Annual Expenditure

Mortgage $ 240,000. 23.08%

Household expense $ 36,000. 3.46%

Food $ 36,000. 3.46%

Children’s upkeep $ 240,000. 23.08%

Utility $ 36,000. 3.46%

Entertainment $ 24,000. 2.31%

Clothing $ 24,000. 2.31%

Transportation $ 72,000. 6.92%

MPF $ 12,000. 1.15%

Others $ 9,000. 0.90%

Insurance premium $ 24,000. 2.31%

Parent’s upkeep $ 60,000. 5.77%

Vacations $ 24,000. 2.42%

Tax* $ 153,000. 15.45%

Total Expense $ 990,000. 95.19%

Surplus $ 50,000. 4.81%

Summary of Mr. Wong’s Family Income and ExpenditureSummary of Mr. Wong’s Family Income and Expenditure

* Assuming tax rate of 15%* Assuming tax rate of 15%


Mr. Wong’s retirement plan and expectationMr. Wong’s retirement plan and expectation Mr. Wong plans to retire with financial Mr. Wong plans to retire with financial

security so that he and his wife can maintain security so that he and his wife can maintain the same lifestyle and living standard during the same lifestyle and living standard during his retirement. He has also indicated the his retirement. He has also indicated the importance of his children’s education and is importance of his children’s education and is prepared to support the children if they prepared to support the children if they continue into postgraduate studies. As a continue into postgraduate studies. As a business succession plan, he also intends to business succession plan, he also intends to pass on his business to the children when he pass on his business to the children when he retires. retires.

3. METHODOLOGY3. METHODOLOGY

Step 1: Projecting retirement income from Step 1: Projecting retirement income from existing resourcesexisting resources

Step 2: Comparing what Mr. Wong has to what Step 2: Comparing what Mr. Wong has to what he needshe needs

Step 3: Providing inflation protection for income Step 3: Providing inflation protection for income derived from existing resourcesderived from existing resources

Step 4: Computer the sum needed at Step 4: Computer the sum needed at retirementretirement

Step 5: Determining an annual savings amount Step 5: Determining an annual savings amount to achieve the targeted amountto achieve the targeted amount


Assumption (4Major):Assumption (4Major): Inflation AssumptionInflation Assumption CPI (consumer price index) HK 1988-2007 rate CPI (consumer price index) HK 1988-2007 rate

4.13%4.13% Mr. Wong’s spending habit, medical and houMr. Wong’s spending habit, medical and hou

sing costs.sing costs. Due to appreciation of the renmenbi, importeDue to appreciation of the renmenbi, importe

d goods from the mainland are becoming mord goods from the mainland are becoming more expensive e expensive

Inflation rate – 4%Inflation rate – 4%

Source: Census and Statistics Department

Consumer Price Index (Consumer Price Index (Year-on-Year % Year-on-Year % Change)Change)

Average Consumer Price Index (1988-2007) = 4.13%


Retirement Age AssumptionRetirement Age Assumption In HK official retirement age is 65. MPF In HK official retirement age is 65. MPF

funds and most old age benefits are funds and most old age benefits are available for Mr. Wong’s at 65available for Mr. Wong’s at 65

As Mr. Wong is the owner of his business As Mr. Wong is the owner of his business he can adjust/choose his retirement age he can adjust/choose his retirement age with more flexibility depending on actual with more flexibility depending on actual conditions of the retirement plan/fundconditions of the retirement plan/fund

Age of retirement – 65Age of retirement – 65


Longevity AssumptionLongevity Assumption Life expectancy in HK projected for 2020. Male at 81, Life expectancy in HK projected for 2020. Male at 81,

Female at 86Female at 86 Life expectancy in HK projected for 2030. Male at 82, Life expectancy in HK projected for 2030. Male at 82,

Female at 87 Female at 87 Mr. Wong has assumed to retire in 2025.Mr. Wong has assumed to retire in 2025. Mr. Wong’s health is good and considering his parents Mr. Wong’s health is good and considering his parents

are already aged 75 & 78 in good health conditions. are already aged 75 & 78 in good health conditions. Mr. Wong assumes a life expectancy of 81 years old. Mr. Wong assumes a life expectancy of 81 years old.

Mrs. Wong 86Mrs. Wong 86 Expected duration of retirement – 17 years (Mr. Expected duration of retirement – 17 years (Mr.

Wong) 24years(Mrs. Wong)Wong) 24years(Mrs. Wong)

Life Expectancy at BirthLife Expectancy at Birth (Male and Female), 1971 - 2030 (Male and Female), 1971 - 2030

Year Female MaleYear Female Male age age ageage

1971 75 671971 75 67 1990 80 741990 80 74 2008 85 792008 85 79 2020 86 812020 86 81 2030 87 822030 87 82

Source: Census and Statistics Department, HKSAR 2007


Income Requirement AssumptionIncome Requirement Assumption Will be based on the Will be based on the “expense “expense

method”method”, more accurate in Mr. , more accurate in Mr. Wong’s case as his current living Wong’s case as his current living style/standard are very expenditure style/standard are very expenditure oriented.oriented.


Other AssumptionsOther Assumptions Interest rate –Interest rate –based on HK average interest rate 2.97based on HK average interest rate 2.97

% from 1987 to2006 & 1.66 from 1988 to 2007 Mr. Won% from 1987 to2006 & 1.66 from 1988 to 2007 Mr. Wong choose g choose 3% for long-term interest rate3% for long-term interest rate

Investment returnInvestment return – Pre retirement 11% (7% after infl – Pre retirement 11% (7% after inflation adjusted)ation adjusted)

Investment returnInvestment return – Post retirement 8% (4% after infl – Post retirement 8% (4% after inflation adjusted)ation adjusted)

MPF return – 9%MPF return – 9% These are reference from Hang Seng Index 13% (1988-These are reference from Hang Seng Index 13% (1988-

2007) and Dow Jones 10% (1987-2006)2007) and Dow Jones 10% (1987-2006)

Average HKD Saving Deposit Rate (1987-2006) = 2.97%

Hong Kong Dollar Saving Hong Kong Dollar Saving Deposits Rate (% per Deposits Rate (% per

annum)annum)

Source : Hong Kong Monetary Authority; Saving deposit rates on deposits of less than HK$100,000 (Period average figures)

Hong Kong Dollar Savings Hong Kong Dollar Savings Deposit RateDeposit Rate (% per annum)(% per annum)

Source: Hong Kong Monetary Authority; Savings deposit rates on deposits of less than HK$100,000 (Period average figures )

3.29%

5.79%5.91%

4.71%

2.33%

1.50%

2.45%

4.20%

3.77%4.08%

5.19%

3.75%

4.47%

2.17%

0.14%0.03%0.02%

0.97%

2.50%

2.10%

0.00%

1.00%

2.00%

3.00%

4.00%

5.00%

6.00%

7.00%

8.00%

9.00%

Savings Deposit Rate 3.29% 5.79% 5.91% 4.71% 2.33% 1.50% 2.45% 4.20% 3.77% 4.08% 5.19% 3.75% 4.47% 2.17% 0.14% 0.03% 0.02% 0.97% 2.50% 2.10%

1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007

Average HKD Savings Deposit Rate 1988-2007 = 1.66%﹝ ﹞

Hong Kong Hang Seng Index (19Hong Kong Hang Seng Index (1988-2007)88-2007)

Source: Yahoo Finance

0.00

5,000.00

10,000.00

15,000.00

20,000.00

25,000.00

30,000.00

1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007

27,812.65

2,687.4

Remark: Past performance is not necessarily a guide to the future

Average Return (1988-2007)= 13%

1987-2006 Average Return = 10%

Dow Jones Industrial Average Dow Jones Industrial Average IndexIndex

Source : Reuters (9/2007)

MPF Funds Past MPF Funds Past PerformancePerformance


Resources availableResources available Resources available include 3 parts,Resources available include 3 parts, (a) Saving Part(a) Saving Part Mr. Wong has Mr. Wong has HKD200,000 HKD200,000 in saving account, with in saving account, with

3% return3% return, the future value on the year of age 65 should be , the future value on the year of age 65 should be 200,000200,000(1.03) exp17 = (1.03) exp17 = HKD330,570HKD330,570;;

(b) Equity Part(b) Equity Part With 11% return, the future value of his equity on the With 11% return, the future value of his equity on the

year of age 65 should be 300,000year of age 65 should be 300,000(1.11) exp17 = (1.11) exp17 = 1,768,5281,768,528;;

(c) MPF Part(c) MPF Part There are nowThere are now HKD265,000 HKD265,000 in Mr. Wong’s MPF in Mr. Wong’s MPF

account, both he and his companyaccount, both he and his company invest HKD1,000 invest HKD1,000 per per month withmonth with 9% 9% return, the total MPF value will be return, the total MPF value will be HKDHKD2,034,1922,034,192 after 17 years;(OP3) after 17 years;(OP3)

So, on the year of age 65, the total resources will be So, on the year of age 65, the total resources will be HKD330,570 + HKD1,768,528 + HKD2,034,192HKD330,570 + HKD1,768,528 + HKD2,034,192 = =

HKD4,133,290HKD4,133,290..

4. THE NEED ANALYSIS AND THE 4. THE NEED ANALYSIS AND THE PLANNER’S WORKSHEET PLANNER’S WORKSHEET

Annual Expense

Mortgage $ - 0.00%

Household expense $ 36,000 10.78%

Food $ 36,000 10.78%

Children’s upkeep $ - 0.00%

Utility $ 18,000 5.39%

Entertainment $ 12,000 3.59%

Clothing $ 12,000 3.59%

Transportation $ 48,000 14.37%

MPF $ - 0.00%

Others $ 12,000 3.59%

Insurance premium $ - 0.00%

Parent’s upkeep $ 60,000 17.96%

Vacations $ 40,000 11.98%

Medical $ 36,000 10.78%

Maintenance $ 24,000 7.19%

Tax $ - 0.00%

Total Expense $ 334,000 100.00%

Retirement need Mr. Wong’s expected lifestyleRetirement need Mr. Wong’s expected lifestyle


Retirement NeedsRetirement Needs As the information provided by Mr. Wong, he and As the information provided by Mr. Wong, he and

wife needwife need HKD334,000 HKD334,000 at present value per year after at present value per year after retirement, that isretirement, that is, HKD167,000 , HKD167,000 per head, per head,

Age 48 Age 65 Age 81Age 48 Age 65 Age 81 Mr. WongMr. Wong : : Pre-retirement post-retirementPre-retirement post-retirement 17 years 16 years17 years 16 years Age 45 Age 62 Age 86Age 45 Age 62 Age 86 Mrs. WongMrs. Wong : : Pre-retirement post-retirementPre-retirement post-retirement 17 years 24 years17 years 24 years After inflation-adjusting, the expense needed each person After inflation-adjusting, the expense needed each person

after retirement should be, after retirement should be, 167,000167,000(1.04) exp17 = HKD325,399 (OP1)(1.04) exp17 = HKD325,399 (OP1)


So, for Mr. Wong, the total amount needed for his So, for Mr. Wong, the total amount needed for his 16 years’ retirement period at the present value on 16 years’ retirement period at the present value on his age of 65 should be HKD3,790,480; (OP2)his age of 65 should be HKD3,790,480; (OP2)

For Mrs. Wong, the total amount needed for her 24 For Mrs. Wong, the total amount needed for her 24 years’ retirement period at the present value on her years’ retirement period at the present value on her age of 62 should be HKD4,959,822; (OP2)age of 62 should be HKD4,959,822; (OP2)

The total amount needed should be, 3,790,480 + The total amount needed should be, 3,790,480 + 4,959,8224,959,822 = = HKD8,750,302. HKD8,750,302.

Retirement Gap:Retirement Gap: As the calculation above, the retirement gap As the calculation above, the retirement gap

needed should be,needed should be, HKD8,750,302 - HKD4,133,290 =HKD8,750,302 - HKD4,133,290 = HKD4,617,012 HKD4,617,012


How to fill in the gap - How to fill in the gap - In order to fill in the In order to fill in the retirement gap, we may discuss the solutions as below :retirement gap, we may discuss the solutions as below :

(a) Mr. Wong’s daughter will graduate 4 years later, (a) Mr. Wong’s daughter will graduate 4 years later, that is, he will that is, he will save HKD10,000 save HKD10,000 per month more at per month more at that time. If Mr. Wong chooses to invest into his that time. If Mr. Wong chooses to invest into his retirement fund using the saved money, there will be retirement fund using the saved money, there will be HKD3,145,397HKD3,145,397 more on his age of 65 when retires; more on his age of 65 when retires;

(b) Mr. Wong’s son will graduate 7 years later, that is, (b) Mr. Wong’s son will graduate 7 years later, that is,

he will save HKD10,000 per month more at that time. If he will save HKD10,000 per month more at that time. If Mr. Wong chooses to invest into his retirement fund Mr. Wong chooses to invest into his retirement fund using the saved money, there will be using the saved money, there will be HKD2,006,641HKD2,006,641 more on his age of 65 when retires;more on his age of 65 when retires;


(c) Mr. Wong has surplus (c) Mr. Wong has surplus HKD50,000 HKD50,000 per per yearyear now, there will be now, there will be HKD2,225,042HKD2,225,042 more more on his age of 65 when retires if he chooses toon his age of 65 when retires if he chooses to invest into his retirement fund;invest into his retirement fund;

(d) Mr. Wong still has 10 years mortgage left, (d) Mr. Wong still has 10 years mortgage left, it means that he will saveit means that he will save HKD240,000 HKD240,000 per per year more 10 yearsyear more 10 years laterlater for retirement for retirement purpose, that will be purpose, that will be HKD2,347,985HKD2,347,985 more on more on his age of 65; his age of 65;


As a whole, Mr. Wong will saveAs a whole, Mr. Wong will save HKD9,725,065HKD9,725,065 which is larger than the which is larger than the retirement gapretirement gap HKD4,617,012HKD4,617,012 on his age of on his age of 65 as the analysis from item (a) to (d),65 as the analysis from item (a) to (d), ((HKD3,145,397 + HKD2,006,641 + HKD3,145,397 + HKD2,006,641 + HKD2,225,042 + HKD2,347,985 = HKD2,225,042 + HKD2,347,985 = HKD9,725,065HKD9,725,065). ).

There are more than enough resources and There are more than enough resources and funds for retirement, early retirement may be funds for retirement, early retirement may be an option for Mr. Wong.an option for Mr. Wong.


Retirement Planning WorksheetRetirement Planning Worksheet ASSUMPTIONSASSUMPTIONS A1. Inflation rate prior to retirement A1. Inflation rate prior to retirement 4%4% A2. Inflation rate after retirement A2. Inflation rate after retirement 4%4% A3. Number of years until retirement A3. Number of years until retirement 1717 A4. Expected duration of retirement A4. Expected duration of retirement 16 (24 for Mrs.Wong)16 (24 for Mrs.Wong) A5. Rate of return prior to retirement A5. Rate of return prior to retirement 11%11% A6. Rate of return after retirement A6. Rate of return after retirement 8% 8% A7. Savings step-up rate A7. Savings step-up rate to be determined if necessaryto be determined if necessary

FINANCIAL CALCULATOR OPERATION PERFORMEDFINANCIAL CALCULATOR OPERATION PERFORMED OP1. – Operation performed to find out the Inflation-adjusted annual retiremeOP1. – Operation performed to find out the Inflation-adjusted annual retireme

nt neednt need OP2. – Operation performed to find out the total resources needed for retiremOP2. – Operation performed to find out the total resources needed for retirem

entent OP3. – Operation performed to find out the future value of the total current assOP3. – Operation performed to find out the future value of the total current ass

etsets


COMPUTATIONSCOMPUTATIONS

L1. Projected annual retirement budgetL1. Projected annual retirement budget L2. L2. －－ Social Security benefit ___Social Security benefit ___ 00________ L3. = Net annual need in current dollars _L3. = Net annual need in current dollars _ 167,000167,000 per head per head __ L4. Inflation-adjusted annual retirement need _L4. Inflation-adjusted annual retirement need _325,399 per head325,399 per head _ (per OP1.) _ (per OP1.) L5. = Total resources needed for retirement _L5. = Total resources needed for retirement _ 8,750,302 total8,750,302 total_ (per OP2.)_ (per OP2.) L6. Total in defined-contribution plans _L6. Total in defined-contribution plans _ 265,000265,000_ _ L7. + Total private savings earmarked for retirement _L7. + Total private savings earmarked for retirement _500,000500,000__ L8. = Current assets available for retirement _L8. = Current assets available for retirement _765,000765,000_ _ L9. Future value of current assets _L9. Future value of current assets _ 4,133,2904,133,290_ (per OP3.)_ (per OP3.) L10. Annual income from defined-benefit plan ____L10. Annual income from defined-benefit plan ____00________ L11. = Inflation-adjusted annual income from defined-benefit plan L11. = Inflation-adjusted annual income from defined-benefit plan N/AN/A L12. = Lump-sum value of defined-benefit plan ___L12. = Lump-sum value of defined-benefit plan ___00________ L13. Total resources available for retirement (line 9 and line 12) _L13. Total resources available for retirement (line 9 and line 12) _ 4,133,2904,133,290__ L14. Additional amount you need to accumulate by retirement _L14. Additional amount you need to accumulate by retirement _ 4,617,0124,617,012_ _

5. PROPOSED SOLUTION AND 5. PROPOSED SOLUTION AND OTHER CONSIDERATIONSOTHER CONSIDERATIONS

Proposed Solution:Proposed Solution:

As seen from the previous analysis, As seen from the previous analysis, Mr. Wong can easily meet his Mr. Wong can easily meet his retirement needs. He can even retirement needs. He can even choose to go into early retirement choose to go into early retirement and enjoy his golden years while in and enjoy his golden years while in relatively good health. relatively good health.


Other Considerations:Other Considerations:

Financial aspect of Mr. Wong’s retirement Financial aspect of Mr. Wong’s retirement could be further enhanced should he could be further enhanced should he receive : receive :

- cash proceeds form sale of business- cash proceeds form sale of business

- inheritance from parents- inheritance from parents

- financial support from children- financial support from children

- sales proceed from property- sales proceed from property


Forced early retirement might happen dForced early retirement might happen due to: ue to:

- downturn or closure of business- downturn or closure of business - health issues- health issues - caregiving health issues- caregiving health issues - macroeconomic changes- macroeconomic changes


Planner should further remind Mr. Planner should further remind Mr. Wong of:Wong of:

- longevity trend- longevity trend

- escalating medical expenses- escalating medical expenses

- the importance of adequate insurance - the importance of adequate insurance coverage coverage

- possible future tax rate or tax law - possible future tax rate or tax law changes changes

6. CONCLUSION6. CONCLUSION Application of the theories and tools above has Application of the theories and tools above has

indeed help quantify the retirement pictures of our indeed help quantify the retirement pictures of our clients in HK.clients in HK.

The U.S. experience is that the application of these The U.S. experience is that the application of these theories and tools have effectively alerted planners’ theories and tools have effectively alerted planners’ clients the need for retirement provision, and have clients the need for retirement provision, and have made planners look more professional in front of made planners look more professional in front of clients. Should make the best use of tools like the clients. Should make the best use of tools like the time value of money tables at the end of Chapter 5.time value of money tables at the end of Chapter 5.

This is true even to a greater extent in HK in which This is true even to a greater extent in HK in which retirement planning is very much in its infant stage. retirement planning is very much in its infant stage.

6. CONCLUSION6. CONCLUSION While planners in HK should use these tools While planners in HK should use these tools

extensively, they should also try modifying them extensively, they should also try modifying them from time to time adding features relevant to HK. from time to time adding features relevant to HK.

Planners should note very unique cultural Planners should note very unique cultural background and traditions in Hong Kong which background and traditions in Hong Kong which warrant special Financial considerations:-warrant special Financial considerations:-

-- -- properties as very popular investmentsproperties as very popular investments -- young will never desert the Old-- young will never desert the Old -- heavy funeral expenses-- heavy funeral expenses

Changes in Hong Kong faster than any other place, Changes in Hong Kong faster than any other place, much more frequent review of client’s plan much more frequent review of client’s plan desirable. desirable.

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determining retirement needs a case study prepared by: chan ting, choi wang chi anny, fong fu tak...

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