Suppose I have 70 lakhs with me and would like to generate an inflation-protected income for as long as possible, how and where should I invest?
The following is based on the Inflation-protected Income Simulator, and a thread at facebook group, Asan Ideas for Wealth (some inputs have been modified)
A more detailed how to generate inflation-protected income from a lump sum can be consulted by those interested.
1) How much inflation can I afford to assume? The monthly income from the corpus will increase by this rate. The initial monthly expense is Rs. 25,000 per month.
2) How long can I generate such an increasing income?
Obviously, there is a tradeoff involved. The longer I want the income, the lower should it increase each year and vice-versa.
the maximum duration I can work within the above simulator is 35 years. For this, an inflation of about 6% can be chosen. This is quite reasonable.
Assumption: I have adequate emergency fund and health cover.
- Create an income ladder with fixed deposits for the first 5Y. An income ladder is one in which FDs (@ 8-7%) mature at the start of each for 5Y. The expenses for that year are covered with this maturity value. Use this income ladder calculator to explore this option more. About 21% of 70 Lakhs ~ 15 Lakhs will be necessary for this.
- Similar income ladders will have to be created for years 6-10 and for years 11-15. This means we can invest a sum for 5 years and then create the 2nd income ladder (@ 7%). Invest a sum for 10 years and then create the 3rd income ladder (@ 7%). For less than 10Y, I would prefer not to take any excessive risks. Therefore I would like to invest an amount which can be used for income ladders 2 and 3 in debt mutual funds(@ 7%). This is about 27.5 Lakhs.
- I can similarly calculate the sum required to create income ladder 4 (years 16-20). Investment duration available =15 years income ladder 5 (years 21-25). Investment duration available =20 yearsincome ladder 6 (years 26-30). Investment duration available =25 years
income ladder 7 (years 31-35). Investment duration available =30 years. All income ladders are @ 7%.
- Since quite a bit of time is available, we invest the amount needed to create all these ladders in equity(@ 10%). We need about 26.2 Lakhs for this. We have about 27.5 Lakhs left. Which is not bad at all.
All the rate of returns mentioned above are post-tax. Someone with 3L annual expenses can hope to get into the nil tax bracket soon enough and with luck might stay there.
All this income ladder business is only on paper. The first income ladder is mandatory to set up. After that, the retiree can simply withdraw from the debt funds or set up income ladders for less than 5 years. There are so many possibilities. It is not practical to consider them all.
This looks pretty decent does it not? Someone with initial expenses of 3 Lakh per year can generate an income that increases at the rate of 6% an year for a good 35 years or even more by dividing the corpus in buckets of differing risk and reward.
What can go wrong?
What if there is some kind of unexpected recurring expense? That will ruin the entire plan.
The health insurance premium is part of the annual expense. Increase in premium with age and risk is not factored in.
If the person can earn an additional income, then great. If not, they are walking on a tightrope.