When most people use a retirement calculator for the first time, they are shocked to see the corpus required and the amount they need to invest. See, for example, the results of a retirement planning exercise. Then they assume there is no hope for them and a financially independent retirement is out of reach. That need not be the case.
This article discusses some generic steps to consider during and after a retirement planning exercise. You can use our robo-advisory tool for this. For real-life motivation, see: We lost sleep after using a retirement calculator! This is how we recovered.
- Do not panic. There are many ways a retirement corpus can be reduced (with corresponding costs), but first, consider your expenses.
- The primary goal of retirement planning is to maintain your current lifestyle. Evaluate your spending habits and determine the money needed to sustain a comfortable lifestyle for you and your partner/spouse. Do not include any non-essential items; they can be added back when you reach a comfortable level.
- 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.
- You should be in a good position if you can pull off 3 and 4 and sustain it for 10+ years.
- 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—the higher this value, the higher the corpus, and 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 we 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 assume 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% annually).
- The above calculations are made with 10% returns from equity (post-tax), 6% returns from tax-free fixed income, and 5% post-tax returns 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.
An investor can adjust the corpus and investment amount to reasonably lower values using these steps. Although these changes may not reflect reality, investors must 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.