Start early, save regularly, retire rich

Amar Pandit

September 3: It wasn't so long ago that when it came to retirement middle-class Indians took much for granted. Since the government was the main employer, a pension was assured. Even if it fell short, one could fall back on the flourishing joint family. Interest rates were high, even rising, and could take care of income streams at minimum fuss. But look what's happened in the last few years. On the one hand, defined benefits from pension and government guarantees are pass, interest rates have halved, the joint family foundation is cracking. On the other, medical costs are soaring, and theres a glaring lack of social security and long-term care products. You just can't ignore retirement planning. Leave it for your later years, and you'll be playing catch up. Start early, follow these five steps, and you'll be ahead in the game, sacrificing little, if at all, in the present ? and ensuring a financially-comfortable future.

STEP I : Estimate your expenses

Most people tend to underestimate their expenses in retirement. In fact, most of us are not even sure how much we spend on a monthly basis. It is only when you do a budgeting and cash flow exercise do you realise how much goes into rickshaws, bhel puris, music CDs, entertainment and parties. There are several ways to estimate your income needs. Most professionals recommend a thumb rule like 70-80 per cent of your last pre-retirement income. I'm not a fan, as it can overestimate or underestimate your income needs. Things can change because of personal choices or circumstances. For example, where do you plan to live after retirement? Lifestyle expenses in Mumbai and Madurai are vastly different. Or, your health, and so on. What I prefer is a current needs analysis. Add up your current living expenses, both unavoidable and avoidable. From this, subtract your children's education expenses, home loan outflows and life insurance premiums. This will give you some idea of what you need every month in today's prices. In addition, you need to factor in old-age medical expenses that can crop up and other lifestyle expenses like vacations. If you plan to give away money to family, friends or to charitable causes, add those too. The net figure is your annual expenses, in today's prices.

STEP 2 : Estimate your life expectancy

Next, you need to take an educated guess on how many years will you need that annual income. Or, how many years are you likely to live? The greater the gap between your retirement age and the age till which you live, the greater the corpus you need. Don't underestimate. It's better to have a surplus than fall short and be at the mercy of others. Given the advances in healthcare, I generally recommend planning till 90 years.

STEP 3 : How much return can you earn?

The third assumption you need to make is the expected return on your portfolio. Say, you retire at 60. The idea of retirement planning is to give you a corpus that will see you through till age 90. In these 30 years, even as you keep dipping into it, it will earn some return. What will be that return? It's difficult to predict what interest rates will be 10, 20, 30 years on, but judging by the evidence on hand, interest rates will be lower. Also, it's quite likely that, unlike today, all your returns will be taxed. If you are a conservative investor, work on a 4 per cent or 6 per cent post-tax return. If you can manage some more risk with your investments, 8 per cent. How much does that work out to? A post-tax return of 4 per cent on a corpus of Rs 1 crore today designed to give an income payout (indexed by inflation of 5 per cent) for 30 years and exhaust itself will give Rs 3.1 lakh a year. At 6 per cent, the corresponding figure is Rs 4.2 lakh. At 8 per cent, 5.5 lakh.

STEP 4 : How much do you need?

Once you have a handle on the above three variables, you can then calculate the corpus you will need (See table: how much do you need to retire?). How much you need in retirement and how far you are away from it will also determine how much you need to save every month to reach your goal. The sooner you start, the less you will have to save (See table: How much do you need to save?).

STEP 5 : Where to invest?

Also, the sooner you start, the better equipped you will be in taking on more risk, which translates into potentially higher returns. When you have 30 years or more to go for retirement, you can direct all your savings into equities and real estate, two asset classes that are volatile and risky, but generate the best returns over such long periods. Your priority at this age should be to own a house and investing heavily in equity. In your late-thirties and early-forties, when you have 15 to 20 years to go for retirement, the focus should be on creating the major part of your retirement corpus. Marriage, home, children, in that order, take up a lot of your financial bandwidth between 30 and 35. So, it's important you use your savings in this period to invest judiciously in equities - at least 80 per cent of your investible surplus, maybe more. When you have five to 10 years to go for retirement, start cutting back on your equity exposure. Retirement is again a 25-30 year period. Hence, ensure that though you reduce your equity exposure, you never cut it down to zero. An ability to protect purchasing power and not running out of money are important issues for you in the next leg of your life, where there will be little or no income coming from salary. If you find yourself in this situation, then make a 50:50 allocation to equity and debt by paring your equity exposure. However, your incremental allocations to equity in terms of systematic investments can still be on the higher side. These are ground rules intended to give you some handle on what you are up against, where you need to go and where you are. The specifics will vary from family to family, and you should consult a financial planner to get a fix on yours. One thing, though, is for sure: if you start early, if you save regularly, you should retire rich.