Real Returns. ₹1 crore isn’t enough to retire

I recently had an encounter on Facebook with Sudhakar, an angry young man who blamed his parents for not saving enough to tide over their retirement.

His father, he explained, had worked in the private sector and received no pension.

He had spent much of his savings during his working life on his children’s wedding and overseas education expenses. He was now wholly reliant on Sudhakar for support.

So, has Sudhakar learnt from his father’s experience and saved up enough for retirement?

“Yes, I will have a ₹1 crore investment kitty by the time I retire,” said the 35-year old, confidently.

But the irony is that a ₹1 crore corpus is likely to leave Sudhakar just as short of money, when he retires, as his father is today.

Not enough

To most salary earners, getting to a ₹1 crore corpus is the holy grail of financial planning. They imagine that, if their provident fund contributions, insurance plans and sundry investments add up to that magic number of ₹1 crore by the time they retire then they are on the velvet.

But that is vastly under-estimating the impact of age and inflation on our retirement plans.

To understand why ₹1 crore may not really solve Sudhakar’s problems, let’s consider a simple calculation.

Suppose Sudhakar incurs ₹50,000 towards his monthly living expenses today and does not want to make any compromises on his lifestyle post-retirement.

As he is only 35 years old, he has 25 years to go before he retires (at 60). At a 7 per cent inflation rate, to retain the same purchasing power as today, he will need to receive ₹2.71 lakh a month when he retires (in 2041).

If he lives to the age of 85, he will effectively be using up as much as ₹8.14 crore (₹2.71 lakh a month for 25 years) for living expenses during his retirement years.

Assuming that his investment kitty at retirement earns exactly the same returns as the inflation rate, ₹8.14 crore is therefore the sum that he will need to save by 60, to see him through his sunset years.

Clearly, a ₹1-crore retirement kitty will far short of his needs.

Or consider this from another perspective. A person looking to retire today can set up a lifelong annuity of ₹50,000 a month (₹6 lakh a year) under LIC’s Jeevan Akshay VI, with an upfront investment of ₹64.2 lakh.

Twenty five years later, assuming LIC is willing to offer the same rates of return (which is unlikely by the way), he will need to set up an annuity for ₹2.71 lakh a month (₹32.5 lakh a year) after accounting for inflation. This will mean coughing up ₹3.48 crore.

Starting early

If Sudhakar’s problem has you chewing your nails, there are two factors that can drastically alter your retirement needs — your age and inflation rates.

If you are 55 years old and have the same spending patterns as Sudhakar, you can probably get by with a much smaller retirement kitty.

In five years’ time, your current living expenses of ₹50,000 would have merely increased to ₹70,100 at a 7 per cent inflation rate.

That means a starting retirement kitty of ₹2.1 crore can see you through the rest of your retired life (again we assume returns on investments make up for inflation).

You can also pray for inflation rates to fall steeply, given the RBI’s new inflation targeting role.

If inflation averages a modest 5 per cent over the next 25 years, instead of the 7 per cent we have assumed, Sudhakar would need a retirement kitty of ₹5.1 crore (instead of ₹8.1 crore). That’s not an easy ask, but would still allow him to cut back on his current savings by a third.

Inflation rates But the above calculations actually over-simplify the problem of how much to save for retirement.

One, they assume that the returns on your investment after retirement will fortuitously match prevailing inflation rates. But that may not happen.

There have been many periods in India when the returns from safe investment options, such as bank deposits, have not kept up with inflation on a post-tax basis.

To remedy this, you will have to either bump up your savings during your working years.

Or you will have to bite the bullet on risk and allocate 10-20 per cent of your corpus to risky investments like equities, to improve your returns.

Two, the calculations also presume that you only need to budget for your basic living expenses after you hang up your boots. What if you want to vacation abroad, leave something to your children or, worse, face a medical emergency?

Your carefully made retirement plans can then go awry. This is why it pays to budget for a little extra while saving towards retirement.

But here’s a final piece of good news. If the numbers being bandied about here worry you, do note that they too are bloated by the inflation effect.

By starting to save towards your retirement early in your working life, and making a conscious shift to inflation-beating investments, you can ensure that both inflation and time can be put to work in your favour.

Sudhakar, therefore, has no need to despair. If he can save about ₹45,000 a month (that includes his provident fund contributions, bank deposits, mutual funds et al) in his remaining working years, and earns a return of about 12 per cent, the ₹8-crore retirement kitty will be well within his reach.

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