One of the most pressing decisions that one has to make in retirement is the quantum of withdrawal. Deciding how much to withdraw can have varying consequences. You could either end up with a decent corpus that can be passed on to your descendants or completely use the entire corpus and struggle near the end of life to make ends meet.
It is important to have a retirement withdrawal strategy in place to ensure that you never run out of money. This strategy will help you design your retirement life based on how much money you can spend in a year. We are going to discuss some essential strategies that will act as a guide to navigate the tough waters of retirement life.
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The % withdrawal strategy
A simple strategy wherein you withdraw a fixed percentage of money each year. For example, if you begin with a retirement nest egg of ₹100 lakhs and want to withdraw 6% per annum, the withdrawal in the first year would be ₹6 lakhs. If the investment corpus grows at 7%, at the end of first year, your corpus would grow to ₹100.58 lakhs. The withdrawal amount in the second year would stand at ₹6.03 lakhs and so on.
It is important to note here that a withdrawal rate of 6% is high and just used for illustrative purposes. Certain things that must be ensured in such a withdrawal strategy are as follows -
- Your withdrawal rate should be lower if you have taken early retirement. Whereas if you are taking retirement much after the normal age of retirement, you can have a higher rate of withdrawal.
- The growth of the retirement corpus must be greater than the withdrawal rate in initial years. So initially, the retirement corpus will go up. As the expenses go up due to inflation a time will come when the retirement corpus starts coming down.
- As you age, the propensity to consume will come down and at the same time expenses related to healthcare may go up.
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In this strategy, the idea is to never touch the invested corpus and live the rest of retirement on the income generated from the retirement corpus. The corpus could generate rental income, dividends, or interest income for you. The major advantage of this strategy is that you never run out of money at any point in time.
However, such strategies require larger corpuses which may not be possible by most people. Further, if the investments are in asset classes like equity or real estate, the year-to-year income would vary depending on the market performance and occupancy rate.
The bucketing strategy
This is an interesting strategy as you create three different buckets of investment corpus. Each corpus has its own objective as follows:
- Liquidity bucket - This bucket essentially ensures that expenses for the next five to ten years are taken care of. The money in this bucket can be held in tax efficient fixed income investments.
- Medium term basket - This basket will take care of the second leg of your retirement. Once the liquidity bucket nears exhaustion, the idea would be to gradually move investments from this bucket to the liquidity bucket. Ideally, five to ten years of expenses can be held in this bucket. The investment decisions of this bucket would solely depend on how much you put in the liquidity bucket.
- Wealth creation bucket - This will be the long-term investments bucket that will be invested with an objective of generating inflation beating returns over the long term. The balance money, after investing in the first two buckets would be invested here. Essentially, investments would be made in equity to generate higher long-term returns.
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There is no strategy that is written in stone. You cannot set it and forget it. You need to continuously monitor your investments on an annual basis. Three factors, sequence of return, health of the retiree and inflation in the economy have the potential to ruin the retirement.
Planning the sequence of withdrawal from various instruments (like NPS, PPF, EPF, Mutual Funds, Fixed Deposits, Stocks, Bonds, etc.) is also important.
Additionally, it is prudent for anyone to focus on creating active income in early years of retirement. If one can meet some portion of your annual retirement expenses in early retirement years through active income, not only will it keep you healthy and active, but it will also go a long way in extending the life of your retirement corpus as well.
Nishant Batra CWM® is Chief Goal Planner of Holistic Prime Wealth.
Disclaimer: The views expressed in this article are of the author, not MintGenie.
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