The Hindu Business Line : Planning for the second innings

Retirement planning has become a hot topic in the last couple of years with the government continuing to grapple with the social security for the elderly.

Factors such as the break-up of the joint family, increase in life expectancy, and a longer retired life have got individuals and the government very conscious about planning for retirement.

Determining monthly sum

At least 70 per cent of the last drawn salary would be the monthly amount required to lead a comfortable retired life.

With a lower tax outgo and fewer social commitments, this amount should suffice.

Consider an example. Avinash is 40 and draws a salary of Rs 40,000 per month. He plans to retire at 60.

He expects his salary to increase at the rate of 10 per cent a year. His pre-retirement salary will be Rs 2,69,000and 70 per cent of that is Rs 1,88,300 .

Having finalised the monthly sum, the next step is to plan the corpus for the fund.

Inflation

Inflation is a crucial variable that has to be built into retirement planning. The effect of inflation can significantly influence purchasing power and must be considered while calculating the money required to maintain the lifestyle post-retirement.

Assuming inflation, now at 5 per cent, Avinash would require post-retirement approximately Rs 74,300 per month (based on 70 per cent of his existing salary of Rs 40,000).

However,an abnormal increase in inflation can throw the corpus targets out of kilter.

If one were to consider an increase in the standard of living and assume that it increases by five per cent a year, the monthly expenses required would be Rs 1,88,300 per month

Building the corpus

This is a difficult task and demands a disciplined approach. Different methods of asset allocation have to be used to reach the target. The power of compounding will make your job easier.

Starting with two target case studies as future monthly expenses: a) Rs 74,300, b) Rs 1, 88,300, Avinash can now decide his investment portfolio.

The corpus required at the time of retirement, say at 60, will be Rs 1,04,000,00 and Rs 2,64,000,00 respectively.

The amount is imposing, but break it down, and it looks do-able, at least to reach the first target.

To reach target `a', your monthly saving will have to be Rs 17,540and for `b' Rs 44,520; this is if your investment is growing at a compounded annual growth rate of 8 per cent. If you are a savvy investor able to generate a combined (debt, real-estate, equity and other avenue) return of 12 per cent, the monthly savings demand will shrink to Rs 10,410and Rs 26,422 respectively.

However, if you happen to be an early bird, you enjoy a big advantage. If you had started at age 25, to reach target `a', your monthly saving will have to be Rs 4500 and for `b' Rs 11,430 at the rate of 8 per cent.

Carrying Avinash's case forward, the corpus of Rs 2.64 crore can be used to buy annuity. Assuming the annuity earns an interest of 5 per cent from the 60th year, it will keep his home fires burning for the next 17 years and 5 months.

Getting down to strategy

Asset allocation: If you start saving early, you can have high exposure to equity, up to 70 per cent till you reach 35-40 depending on your appetite for risk. Having fixed the asset allocation, you should try to dynamically balance your investment portfolio.

If you have invested Rs 1,00,000 and it has grown by 30 per cent in a year, then you need to push your equity exposure lower to reflect this increase.

As you grow older, you can balance your portfolio by reducing equity and stepping up debt by using the thumb rule of 100 minus your age. However, close to retirement, equity exposure can be brought down 10-15 per cent of the assets.

Life insurance: A whole life policy or preferably a policy that allows for the maximum age by the insurance company can be considered. This amount will create security for the surviving partner. As part of asset allocation, it is preferable to have term assurance from the insurance company, which comes at lower premium, and if a cover is taken early, the premium outgo will also be lower.

Medical insurance: As you grow older, health related problems may surface and hence the need for medical insurance.

For example, if your family has a history of high blood pressure, it is wise to get medical cover to the maximum limit now (the maximum limit allowed now by general insurance is Rs 5 lakh).

At least five years before your retirement, you should have maximum medical cover.

This will ensure that even with ailment/disease it won't be at the cost of your corpus.

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