WRITTEN BY Abroaden Insights Team - June 17 2022 - Financial Wellbeing

How people living abroad can create an endless retirement fountain

"Saving and investing in my retirement."

This response is by far the number one answer we get when we ask people living abroad to tell us their top investment goals. 

We totally get it. 

No one wants to work forever, even if you're living in your dream destination. 

To make it so we can stop working while not being miserable, we start saving parts of our salary each month. 

But is stashing our cash in a savings account going to give us the ability to (almost) whatever we want until the day we physically can't? 

Absolutely not.  

Thankfully, there's an amazingly powerful way we can avoid that grim, depressing future, 

All it takes is a bit of work and a different perspective.

Keep reading to learn how.

The different ways people living abroad get paid during retirement 

Whether we've lived and worked abroad our entire lives or never left home, we'll have a few different ways to receive retirement income. 

In the exciting world of financial planning, we call these streams "pillars." 

Depending on their structure and how you use them, they'll either provide the core of your income or help boost your finances while you live out your days.

These are the most common ones.

1st Pillar: State-backed pensions 

These are the mandatory pension plans you pay for via social security and backed by the government

The contributions come directly out of your paycheck if you're an employee. 

If you're a freelancer or remote worker, you're likely paying into them through a state-sponsored program.

It's a guaranteed income stream (in theory), and, what's more, you'll know exactly how much you're entitled well in advance. 

2nd Pillar: Company pensions, preferred private plans, and life insurance 

The second pillar includes any pension plan provided by your employer, plans offered by banks, and life insurance. 

Unlike the first pillar, these come from private entities. Depending on the type of the plan, you might know how much you'll get when you retire (we call that "defined benefits").  

In other cases, you won't know how much you'll get, but you'll put in a set amount each month. (We call this "defined contributions").

Depending on your country, participating in a 2nd pillar plan is mandatory. In Switzerland, for example, all workers must use one from an authorized private body.

In other places, they're optional but with incentives to participate. 

Here in Spain, workers can deduct up to 2,000 EUR a year from their gross salary by purchasing a pension plan from the bank.  

(Lowering your gross salary means you'll pay less income tax).

The problem with these plans is that they don't cross borders well (if at all).

For people living abroad, that means you could get stuck with investments that underperform while creating tax headaches in your new country.

How people living abroad can create an endless retirement fountain

Short on time or want some more info? Here's a video we shot explaining this blog post in more detail!

3rd Pillar: Our self-directed savings and investments 

The last pillar, and maybe the scariest, is the one we manage ourselves (what financial planners call "self-directed"). 

Unless you're working with an advisor or other specialized platform, we're left to our own devices to find what's best for us. 

Yet, despite the intimidation of doing-it-yourself investing, the 3rd pillar gives us by far the most power and opportunity to grow our wealth.

The 3rd pillar is even more crucial for us living and working abroad since the first two can't cross borders with us.

Depending on how we do it, we can set ourselves up for an incredibly comfy retirement by making our money work for us. 

More importantly, you'll have investments you can pass on to your loved ones, a cause you believe in, or even your cats.

When it comes to securing our future, it's truly the most powerful tool in our arsenal.  

It also happens to be the most misunderstood. 

The myth: I'll spend my 3rd pillar slowly until it runs out

For the first and second pillars, the way we get our retirement is clear:

  • The government (or governments if we've worked in multiple countries) will pay us a fixed amount until we reach the end of our lives. 
  • Private pensions and insurance will pay us guaranteed retirement income, either fixed or varied.

Those two pillars give us a solid foundation and safety net, especially since they'll be there for us regardless.

So what happens with our 3rd pillar investments?

The general thinking is that we'll slowly withdraw our savings and investments until it's gone by the time we hit retirement. 

After all, it's a big ole pile of cash. Shouldn't we just spend it? 

Turns out, that's not the best way to use those hard-earned funds. 

In fact, it's probably the worst thing we can do with our savings and investments. 

Deep in the back of our minds, we know it, too.

It's completely normal to have this fear and anxiety about the money running out before we run out of time on the planet. 

The thought of being old and financially insecure terrifies us. 

As we're emotional creatures, we let that fear block us, and instead of saving or investing, we spend that money now. 

The truth is that we can make our 3rd pillar work for us way more effectively for us, with little fear of running out of money.

If we do it right, we can create a near-infinite income stream to make our retirement even more comfortable.

The secret reality: creating an endless fountain of retirement money 

We (hopefully) don't know how long we'll have left to live when we get to our retirement. Ideally, we'll get a few decades of quality life to do whatever the hell it is we want. 

Therefore, we want to preserve our investments and wealth by keeping them working for us without ever running out.

Here's how. 

Let's say we were excellent investors from our mid-30s.

We started with 20,000 EUR sitting in a savings account that we put into a few different ETFs.

Each month, we put 300 EUR directly from our paychecks into our investment strategy.

Because we diversified well, we were able to get an average return of 8%. 

With the power of compound interest at work, that gives us 675,000 EUR after 30 years of investing, just in time for our retirement. 

(Pretty neat, right?). 

After you've got your totally bitchin' retirement party out of the way (no need to worry about showing up to work hungover anymore), it's time to put your 3rd pillar to work for you.

To do so, you'll do two things each year: 

  • Sell a tiny percentage of your investments which will supplement your other pillars
  • Grow your portfolio at the same rate you sold over the next 12 months. 

You let this cycle repeat itself until, well, you can't (on account of being dead). 

In turn, you'll have not only an extra income stream for life but also a huge safety net if you need it.

We're launching the first wealth-building platform for people living abroad like yourself to make building your 3rd pillar effortless.

The 4% guideline (aka how much water to run through your fountain)

Now that we understand how to keep our 3rd pillar investments from ever running out, you're probably asking yourself: 

"How much of my investments should I sell each year?" 

Good question. 

In short, it really depends.

Because markets are volatile, the more you sell, the less chance you will recuperate that amount of the year.

On the other hand, if you sell too little, you'll be too dependent on your 1st and 2nd pillars. 

The general consensus among Investment advisers and financial planners is that you should aim for 4%.  

For them, that amount is ambitious enough to give you a comfortable income stream while being conservative enough to likely regrow over the year. 

In our case, our portfolio of 675,000 EUR would give us 2,250 EUR a month for life.

675,000 EUR x 4% = 27,000 EUR. 

27,000 EUR/12 = 2,250 EUR

In other words, you'd sell 27,000 EUR worth of your portfolio each year, then grow it by just over 4% to recuperate that money. 

If you do it right (and it's not too difficult), your retirement fountain will never lose its base reservoir. 

Instead, it will provide you with a steady income stream until the day you no longer need it. 

Nice. 

A never-ending supply of money. We wanted to use a "money fountain" gif, but all we could find was this clip of a ketchup fountain for fries. Good investment or great investment?

Why building your 3rd pillar is so vital for people living abroad.

Of course, there are some downsides to this method. For one, the market goes up and down all the time. That means your 3rd pillar won't pay as much in some years. 

Alternatively, you can have years where you quickly pass your goals. 

Inflation can also impact your fountain as the amount you sell each year could buy less than the one before that.

In these cases, some advisers recommend shooting for a slightly-higher target, like 5%. 

Also, we didn't include any taxes in the examples we used above. 

Unfortunately for most of us in Europe (and practically everyone living abroad), there's not an easy way to avoid capital gains taxes altogether when we sell our investments. 

That said, even with taxes, your 3rd pillar will transform the way you live after you stop working. 

This part of your retirement strategy is even more vital if you live abroad. 

For us, we can quickly wind up with a collection of 1st pillar entitlements across many countries, all of which pay different amounts at different times. 

What's more, the 2nd pillar investments won't grow as much since many of them can cross borders. 

Again, we wind up with either less income or an unpredictable amount in a way our friends who never left home have to think about. 

With our backs against the proverbial wall, it's far past time to start making our retirement as awesome as it can be.