The Way Out Of Pensioner Peril

Budgeting can be tricky at the best of times, but what happens if your income suddenly drops by half? This could easily happen once you retire. In fact, you may be living on even less than that. So how do make your money stretch far enough in your twilight years?

It's a common mistake to underestimate the cost of living in retirement, especially if you'll be mortgage-free. But the problem is, if you cleared your mortgage debt some years before retiring, you may already be accustomed to the surplus.

It comes as no surprise then that one in four pensioners over spend during the first year of their retirement. According to Prudential, pensioners splurge £8,000 more in year one, on average, than they do in any subsequent years. Alarmingly, many of these people fail to write up even a basic budget and are driven to drastic cutbacks later on.

If you're about to give up work, planning for the financial side of retirement should be high on your agenda. The trick is to budget carefully. So for practical advice, read Five Steps To Brilliant Budgeting written by my Foolish colleague, Cliff D'Arcy.

Of course, your income is likely to be considerably lower once you stop earning a salary. There's now no chance of inflation-busting pay rises or future bonuses to keep you going. For these reasons, mastering the art of budgeting is even more important once you retire.

These days, pensioners face a particularly tough financial challenge. Not only coping with a smaller and often fixed income, but tackling higher inflation over the long term too. Rampant inflation is hitting all of us hard, but you may feel it even more acutely in retirement than working people do.

How can you tackle inflation in retirement?

A larger part of your budget will probably be spent on food and fuel bills now. But, unfortunately, food and energy prices are rising much faster than the overall UK inflation rate.

In the year to May 2008, retail food prices rose by 8%, while gas and electricity bills increased by 10%. These hikes are far higher than the government's official measure of inflation -- the Consumer Prices Index (CPI) -- which, at that time, was running at 3.3%. Even worse, it looks like household expenditure could be driven even higher in the coming months.

It's vital you keep your household bills in check. Cut your grocery spend by hunting down low cost deals for your weekly shop using the price checker at a price comparison website such as MySupermarket. And read Ten Ways To Cut Your Food Bill for some great money savings tips.

In the same vein, Ten Ways To Save Energy offers lots of helpful hints to reduce your fuel bills. But don't forget the best thing you can do is switch your energy supplier to make the biggest savings. You can use our gas and electricity comparison tool to compare different deals. Finding the cheapest tariff to meet your needs is more important than ever as energy prices are expected to double by early next year.

Tax-free cash

Many of you will have gone down the pension route to save for your retirement. This means you may have received a quantity of tax-free cash from your pension fund (in accordance with current pension rules, you're able to take 25% of your pension as a tax-free lump sum).

Perhaps you have other savings and investments that you have built up during your working life too. But don't be tempted to squander this money on too many holidays and other luxuries in the early years of retirement.

The cost of treats like these typically rises far faster than the rate of inflation, so spend carefully now to avoid going short later on. Remember, you have your budget to help you keep on track.

You should treat these sources of extra cash as a reserve to see you through your retirement. There's a number of ways you can do that. If you want to keep things simple, you may want to put your cash in a high-interest savings account which you can draw on as needed.  But it's also a sensible idea to discuss your retirement planning with a good independent financial adviser.

On a final note, Standard Life estimate that pensioner inflation stands at around 6% a year. If the rate continues at a similar level over the long term, people on a fixed income could find their spending power halves in real terms in just ten years' time.  

So it really is crucial to make your money stretch as far as possible in retirement.