Retirement is one of the most important stages in our life, we will reach retirement sooner or later whether we plan for it or not. Retirement Planning is a puzzle for many people and most people are confused about it.
Let us try to simplify Retirement Planning with the help of a case study
Abhishek and Aishwarya is a couple living in Pune. Abhishek is 37 years old and works in an MNC. Aishwarya is a housewife and she is 35 years old. Abhishek and Aishwarya feel that they can lead a comfortable life after retirement if they have Rs. 50,000 per month for their expenses. Abhishek would like to stop working at the age of 60.
Let us see how they can plan for their Retirement
1. The first step would be to estimate the value of Rs. 50,000 when Abhishek retires at age 60
2. Second step would be to calculate number of years in retirement considering realistic life expectancy
3. Then we will calculate the retirement corpus Abhishek and Aishwarya would need to accumulate
4. The final step would be to calculate amount they should start saving per month towards retirement
Let us understand each step in detail
Step 1: Estimating the value of Rs. 50,000 at age 60 of Abhishek
Currently Abhishek is 37 years old and he has 23 years to reach retirement age of 60. Considering an average inflation of 7%, he will require an amount of Rs. 2.37 Lakhs per month at age 60
Step 2: Calculating number of years in retirement considering realistic life expectancy
This is an important consideration in retirement planning. We should consider realistic life expectancy. If we consider low life expectancy and do the retirement planning, we may run out of money and struggle financially in later years in retirement. Ideally, we should consider life expectancy of at least 90 years to be on safer side; higher the better
Step 3: calculating the retirement corpus needed to be accumulated
Considering the life expectancy of 90 years for both Abhishek and Aishwarya, the amount accumulated should be sufficient to finance 32 years after Abhishek’s retirement (as per Aishwarya’s life expectancy). Since in this case, the amount required per month is Rs. 2.37 Lakhs in the first year of Abhishek’s retirement, Abhishek and Aishwarya need to accumulate Rs. 9.10 core for retirement corpus
Step 4: Amount to be saved per month
Most people are comfortable till this step and then confusion starts with questions like “how much do we need to save?” and “which products and instruments to choose?” etc.
Let us try to figure out how to go about it, in our case study Abhishek has 23 years ie. 23 X 12 = 276 Months to accumulate the amount of Rs. 9.10 Crores
Monthly savings required to accumulate Rs. 9.10 Crores @ different expected return
Expected Return 4% 6% 8% 10% 12%
Monthly Saving Rs. 2,03,000 Rs. 1,56,000 Rs. 1,19,500 Rs. 90,500 Rs. 68,000
Products that can be used Savings A/c. Fixed Deposits, Insurance Endowment Plans, Pension Plans Debt Mutual Funds, NPS, ULIPS NPS, ULIPS, Equity Mutual Funds, Real Estate Equity Mutual Funds, Direct Equity, Real Estate
From the above we can understand that if Abhishek and Aishwarya save money in an instrument generating 4 % return, they need to save Rs. 2.03 Lakhs per month whereas if they save their money in an instrument generating 12 % return, they need to save Rs. 68 Thousand per month. The amounts to be saved per month can also come down significantly if monthly savings are increased every year with proportionate increase in income.
Each product and instrument has its own advantages as well as disadvantages. There is risk associated with every product too
Like savings a/c, Fixed Deposits, insurance endowment plans and pension plans face inflation risk, (meaning they provide return less than the inflation)
Fixed Deposits additionally face Interest risk and reinvestment risk, (we start a FD and the interest rate increases in market 0r at the time of renewal the interest rate in market has fallen)
Debt Mutual Funds, ULIPS, Equity Mutual Funds and Direct Equity face Volatility Risk(Volatility means the return is not fixed sometimes it is higher sometimes it is lower also at times its negative, Liquidity risk means the money is not easily available for eg. A property may be valued at 1 crore, however we cannot sell a part of it if we require 10 lakhs or there may be no buyer at that time to but at 1 crore)
NPS and Real Estate face Liquidity Risk
Therefore, a proper Investment plan needs to be put in place that usesa balanced mix of investment products and instruments to reach the target within the required timeframe.
Regular annual review of Retirement Planning is very important. Below are the points that should be considered inthe review.
• Is any change required to be done in per month expense considered for the retirement planning calculations
• Does inflation rate considered still holds good or needs to be changed
• Are savings and investments made as planned till date or there is some gap in it. How to fill the gap if there is.
• Does expected return requires to be changed
from above, we can understand that Retirement planning is not a onetime activity but a continuous process which can be improved with every review so that we can reach our target efficiently.
Please leave your thoughts in the comments below.