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As Australians approach retirement, we face some common questions. Do we have enough savings? When should we retire? What should we do with our super? And how do we go about building a steady income in retirement?
To successfully answer these questions and solve the retirement income puzzle, you need a good understanding of how the world of super and investment works.
That means you need at least a basic level of financial literacy which, unfortunately, is something many of us lack.
Planning your retirement income is always a tricky task.
Many other countries solve this by having defined pension systems, so you know where your money will come from – your former employer or the government – and exactly how much you will get.
Our retirement system isn’t so straightforward. Australia’s retirement income system – which combines a means-tested Age Pension, compulsory superannuation and your private savings – makes it harder to work out how much you will need to save and how much you will get when you retire.
If you lack basic financial literacy skills, the task is even harder.
Why your financial literacy skills matter
It’s well accepted that having at least a basic understanding of your finances and how financial products work has a profound impact on your overall financial position and your ability to provide for your future financial needs.
This is increasingly important, as consumers around the world are being asked to shoulder more of the burden when it comes to making everyday financial decisions. There are also higher levels of household indebtedness than in the past, plus easier access to credit from a variety of non-traditional sources.
As consumers, we are also expected to make much more sophisticated investment decisions and understand the increasingly complex financial products now on offer.
How financially literate are Australians?
When researchers study levels of financial literacy, Aussies rank relatively well, with several surveys placing Australia in the top 10 countries globally.
Despite this, experts have found there is a knowledge gap in Australia, particular among young people. There is a large and significant gender gap too, with women, on average, less financially literate than men.
Research by Professor Alison Preston at the University of Western Australian in 2020 found around 8.5 million (or 45%) of adult Australians could be considered financially illiterate.
The research found only 63% of men and 48% of women could understand at least three of five basic financial literacy concepts. This was established using a five-question test covering knowledge of concepts such as compound interest, inflation, risk, diversification and money illusion.
She found only 50% of adult males could be described as having ‘high’ financial literacy (which means correctly answered all five questions), compared to 36% of women. Financial literacy not only varies by sex, but also place of birth, marital status, education and employment. For example, women whose highest level of education was Year 12 or less had a financial literacy rate of 38%, while the rate for tertiary qualified women is 65%
Financial literacy as you get older
In her submission to the government’s 2020 Retirement Income Review, Professor Preston also highlighted the important relationship between financial literacy and superannuation savings, particularly for older people.
Her research has found people’s level of financial literacy varies by age in an inverse U shape, with literacy lowest among young people, before rising over the years and then declining again as we age.
This pattern of declining financial literacy as we age is found worldwide, with literacy scores declining about 2% each year after age 60. A Singaporean study, for example, found older adults understood compound interest and inflation, but few knew about risk diversification. Only 42% of study respondents owned shares and only 18% held investment portfolios appropriate for their age.
In Australia, the turning point for the start of a decline in financial literacy levels is closer to age 50.
Financial literacy and retirement comfort
While older Aussies may not be as financially sharp as they once were, remaining on top of your finances plays a key role in whether or not you feel comfortable and enjoy your retirement.
The National Seniors Australia’s Feeling financially comfortable? What retirees say report found taking an active role in planning for the future made an important contribution to people’s sense of financial comfort in retirement.
The report found retirees with good levels of long-term financial literacy experienced positive retirement outcomes. Their solid financial literacy skills provided them with a strong sense of control over their financial wellbeing.
Preston’s research also supports the argument financial literacy is associated with satisfaction with your financial situation, which is an important predictor for your wellbeing. She found around 40% of men and women who are financially literate consider themselves to be very satisfied with their financial situation, while a much smaller share of financially illiterate people feel the same way.
Dealing with retirement complexity
The final report from the government’s Retirement Income Review (RIR) found the low level of financial literacy skills among many Aussies was an important factor stopping them from understanding our complex retirement income system. A lack of financial literacy was causing some people to “fail to adequately plan for retirement and make poor decisions about how to use their savings in retirement”, it noted.
The report also found the complexity of the decision-making required when people prepare to retire resulted in many Aussies simply relying on ‘rules of thumb’ and their natural biases. They are being influenced by these biases when they decided how to spend and invest their retirement savings, rather than basing their decision-making on informed financial knowledge.
As a result, many retirees are experiencing a lower standard of living in retirement than necessary.
Even when you are fully retired, having the financial literacy skills to effectively manage your finances remains important. The RIR report found many retirees were being too conservative and frugal when drawing down on their retirement savings and, as a result, they had less money to live on. These retirees generally had low levels of financial literacy.
5 tips for improving your financial literacy skills
Whatever your level of financial literacy, it’s important to keep learning about your finances. Every step you take towards getting a better handle on your financial situation helps you make more confident financial decisions and makes your retirement more successful.
Becoming financially literate doesn’t happen overnight, but it can be achieved over time. Here are some simple ways to improve your skills in this area:
1. Start now with one area
A good strategy is to start with one topic at a time. Choose the area you are most interested in learning more about – whether it’s investing, paying off your mortgage or learning how compound interest works – and tackle that one first.
2. Use government resources
The government is keen to help you learn more about your personal finances. ASIC’s MoneySmart website is a great place to start as it has lots of information about a range of topics covering managing your money, reducing your debts, planning your future and growing your wealth. The website also has useful tools and resources, such as budget planners, mortgage and super calculators, and advice on choosing a financial adviser.
3. Check your super fund’s website
Most super funds provide lots of useful resources and tools on their website. These include simple information about super and retirement, plus calculators and tools that help explain many of the key financial concepts. Some funds even offer access to detailed education resources and online webinars to help.
4. Read SuperGuide to learn more
A great way to improve your financial literacy skills when it comes to super and retirement is to read the huge library of articles available on the SuperGuide website. We cover every aspect of the super and retirement system, plus lots of useful information about investing, wealth creation concepts and financial products.
5. Talk to a financial adviser
A qualified independent financial professional can answer your financial questions and help build your knowledge and confidence about day-to-day money management or more complex long-term financial topics. They can also assess your current situation, help you create a financial plan and get you on the right track for the future.