Many readers are shocked to see the results of a retirement planning exercise. The target corpus required is too high relative to what they imagined and so is the required investment amount. This leads to sleepless nights and panic. “Is there any hope for me?” asks one such reader.
If you are not shocked at the results of a retirement calculation then something is wrong with the inputs or the calculation! The younger you do this exercise, the brighter your prospects of getting close to the target corpus.
Thankfully, the reader who asked this question was only 35 so there is plenty of time and hope left for him. Things can get tougher for older investors though.
In this article, we discuss some generic steps to be considered during and after a retirement planning exercise. You can use our robo advisory tool for this. For some real-life motivation see: We lost sleep after using a retirement calculator! This is how we recovered.
- Do not panic. There are many ways in which a retirement corpus can be reduced (with corresponding costs) but first take a good look at your expenses.
- The primary goal of retirement planning is to maintain your current lifestyle. So take a hard look at your lifestyle. What are the minimum expenses required to live a reasonably comfortable lifestyle for you and your partner/spouse today? Remove any luxuries or extravagances. You can add them and recalculate once things become comfortable.
- Before starting the calculation or adjusting the inputs, check the following. If X = your monthly expenses that will persist in retirement then each month you should be able to invest at least 75% of X. This investment includes your mandatory EPF deduction (employee + employer).
- If your retirement is far away (at least 15+ years), then invest at least 50% of what you can each month in equity (stocks + MFs) and the rest in fixed income (EPF, NPS etc). For more about this see: A simple thumb rule for retirement planning.
- If you can pull off 3 and 4 and sustain it for 10+ years, you should be in a good position.
- If a further reduction in the corpus is necessary we can tinker with the inputs. The minimum yearly inflation recommended after retirement is 6%. Before retirement, we recommend 7% inflation. Higher this value, the higher the corpus; the higher the investment amount. If the corpus is too high, first try reducing expenses and if still too high, reduce the inflation pre-retirement to 6% and post-retirement to 5%. This is not ideal but many of us need some motivation to start.
- For example, a 35-year-old with Rs. 40,000 monthly expenses today will need Rs. 5.61 Crores at age 55 at 7% inflation before retirement and 6% after up to age 90.
- At 6% inflation before retirement and 5% inflation after, the corpus drops to Rs. 4.08 Crores. The investment amount required (assuming a 10% year-on-year increase in investment) reduces from Rs. 43,455 to Rs. 31,724.
- If the expenses are reduced to Rs. 35,000 (that is we assume only this much from the current expenses will be required at the time of retirement) with inflation at 6% before and 5% after retirement, the corpus drops to Rs. 3.57 Crores requiring a monthly investment of Rs. 27,758 (increasing 10% a year)
- We can further reduce the corpus if we reduce the life expectancy to age 85 from age 90. In this example, we are assuming the person is either unmarried or has a spouse of the same age. If the spouse is younger, then the robo tool automatically computes the corpus until the younger spouse turns 90 (this is variable).
- The corpus then reduces to Rs. 3.27 Crores requiring a monthly investment of Rs. 25,622 (increasing 10% a year).
- The above calculations are made with 10% returns from equity (post-tax); 6% return from tax-free fixed income and 5% post-tax return from taxable fixed income.
- Obviously, the corpus and investment amount required will be further reduced if these return assumptions are increased. However, we strongly recommend against this. These return assumptions are not what you will get next year or the year after. These are returns expected at the time of retirement and beyond. So they should be lower than what we see today.
Using these steps, an investor can adjust the corpus and investment amount to reasonably lower values. Although these changes may not reflect reality, it is important for investors to start investing instead of getting upset and losing sleep over the large corpus and investment required. After a few years, the investor can revisit these assumptions and nudge them closer to reality.
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Dr M. Pattabiraman (PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. He has over 14 years of experience publishing news analysis, research and financial product development. He is a patron and co-founder of “Fee-only India,” an organisation promoting unbiased, commission-free, AUM-independent investment advice.
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