Can I live off my investment's interest once I retire?

Once you retire, it may seem like a good idea to leave your capital untouched and live off just the interest that your retirement savings have generated. While it is possible, this may only work in theory. That's because of inflation.

Inflation is the increasing cost of living that you need to keep up with, or try to beat. As the years go by, the interest that you earn on risk-free or low-risk investments may not be enough, on its own, to maintain your standard of living. To figure out how much you can use to survive on once you retire, you need to understand how inflation works.

How exactly does inflation affect my savings?

The problem with interest is that it doesn't always, or fully, compensate for inflation. Inflation causes money to be worth less and less over time. So, even though your capital amount stays more or less the same when you're living off the interest it generates, its value will start to decrease. This means that the interest you earn right now won't have the same value in, say, 10 years' time.

In other words, your capital and its interest will have significantly less purchasing power, and the money will start to run out. (Have a look at the table here to work out how long your retirement income will last.)

How can I earn an income during retirement?

The good news is that there are a few ways to generate an income that can keep up with - or even outperform - inflation. For example, returns from riskier assets like equities can far exceed inflation over the long-term. So, depending on factors like how conservatively or aggressively you invest, as well as how sustainable your drawdown is, you can plan so that you'll have enough to live off. Here's an overview of ways to generate an income post-retirement:

1. Invest in a living annuity (also known as a linked annuity)

It's compulsory for a portion of your retirement savings to be invested in a registered annuity like a life annuity (see below) or a living annuity once you retire. A living annuity is an investment product that you can invest a lump sum in that allows you to choose the funds you invest in and draw a regular (usually monthly) income. You must draw between 2.5% and 17.5% each year.

The benefit of a living annuity is that there is flexibility in the income you can choose, and any money left over when you die can pass over to your loved ones. The downside is that you bear the risk of your money running out. If you've invested in good blend of equities, property, bonds and cash, you stand a better chance of earning higher returns and keeping pace with inflation - which is better for your pocket! A financial adviser can help ensure that your assets here are balanced and diversified.

2. Buy a life annuity

A guaranteed, fixed or life annuity is essentially an insurance product that pays you a guaranteed income for a set number of years, or for life. Life annuities are especially useful if you're retiring relatively young or if your family has a history of longevity - you can rest assured that your income will last.

The downside is that there's a high correlation between the interest rate at the time when you purchase a life annuity, and the income rates you can get. Also, while these annuities can guarantee an income that keeps up with inflation - there isn't the income flexibility of a living annuity. In addition, the policy ends when you die, so it doesn't generally leave your family with any money if you pass away.

3. Rent out property

Renting out property is a popular way to earn a passive income once you retire. Rent is usually adjusted for inflation, which means it's fairly sustainable. Just remember that a rental property is concentrated risk and often requires careful attention to ensure everything is kept safe and in working order and that you have the right tenants.

Listed property is the best way to go if you want to diversify your portfolio and avoid the hassle and risks of rental properties. The more diverse your portfolio, the better your chances of keeping up with inflation, so make sure you don't rely entirely on single properties to pay for your retirement!

Find more tips here on how to earn and save money once you retire.

So what can I live off of? 

The answer to this question will be unique to everyone. Your drawdown - the amount that you can withdraw from your savings to use as your monthly or yearly income in retirement - is hugely important here.

If you withdraw too much, your money will start to deplete. Your savings will also start to run out if your drawdown amount isn't adjusted for inflation. The goal is to make sure you don't deplete your capital and, if possible, preserve your capital for your loved ones, and generally this is done by drawing down as little as possible. For a personalised answer to this question, speak to a trusted financial adviser.