Retirement planning

Retirement planning is hardly something that a person who has just started a job will worry about. Thankfully mandatory savings (EPF and gratuity) get us started. But it is important to have at least a rough idea of what this entails.

Rules of thumb

The following can come in handy while figuring out retirement needs

1. Assume that the corpus required will be 25 times your annual expenses
2. Assume that your expenses in real terms (i.e. ignoring price increases) will be slightly larger than your expense just before you had your first child. Do not consider rent and loan repayments as expenses
3. Plan so that all your loans and liabilities, especially your house loan will be paid off before retirement. This assumes that you will have a house (or equivalent money) before you retire.
4. Do not make any plans for the duration of your retired life. Over the last 50 years, life expectancy in India has increased by 25 years so by the time you die, you may well be over 100. Plan so that your funds never fall short.

Typically item 2 above comes to (or should come to) around 30% of your take home pay so your retirement needs will be around 12 times your annual pay when you had your first child. If the retirement horizon is 30 years, you need to save 10-12% of your income in high yielding mechanisms for retirement; if the horizon is 12 years, it will shoot up to 50%.

Where to invest

It is well kept secret that over long time horizon (above 15-20 years), equity indices are SAFER than fixed deposits or even government debt. This seems highly surprising but this is caused by the significantly higher returns in equity.

The instrument of choice will be mutual funds or index ETFs. As I have explained earlier, these will also double up as emergency corpus, keeping you away from high cost short term debt (like personal loans and credit card debt) and allow you to keep away from medical insurance (except for catastrophic insurance like accident, disability and critical illness covers). But these must be balanced by overestimating your needs and providing slightly higher for your retirement.

Ideal portfolio at retirement

 Ideally at retirement at the age of 60, a couple would have their own house and would be free of any debts or responsibilities. They would have a retirement corpus that is around 10 times their annual salary at retirement and expenses around 30% of their retirement salary.

After retirement

The retirement period has increased over time and it will not be surprising if it becomes 40 years by them a person in their thirties retires. Hence this is a large period and all rules for investing for large periods apply here.

In other words, the retirement corpus must primarily be invested in equities again via mutual funds or ETFs. Assuming a conservative real return of 4%, every month 0.3% of the portfolio value (at that month) can be moved to your savings account. The savings account should contain money for 1 - 2 years of expenses.