The biggest flaw in financial planning is that we do not plan our retirement early enough. It is okay to take risks and aim for a huge corpus, but that should not be at the cost of our sanity and practical handling of finances. Retirement planning does not have to be on the last day at work. You must plan your retirement corpus early so that you can spend the post-retirement phase planning how to allocate your financial resources.
Retirement Planning: The two decisive approaches to safeguard your golden years
There are different approaches to retirement planning. Depending on how you view your life post-retirement, familial responsibilities and approach to life, you can plan your retirement funds accordingly.
One is that you start parking parts of your earnings in government-sponsored schemes like the Public Provident Fund (PPF) and the National Pension Scheme (NPS). These are over and above the Employee Provident Fund (EPF) that is anyway operational on employment.
Viral Bhatt, Founder, Money Mantra says, “Retirement savings products come with several tax benefits so that more and more people are encouraged to buy them. There are essentially two products meant for retirement savings – PPF & NPS. Both are covered under Section 80C of the Income Tax Act which means you can claim tax deductions up to ₹1.5 lakh by investing in any of the products. PPF provides guaranteed returns, people who are more risk-averse prefer to invest in this product."
“Currently, the PPF interest rate is 7.1 per cent. NPS since it’s a retirement scheme, an investor can’t redeem his money before the age of 60. A long-term lock-in period ensures that the money is used only for post-retirement purposes. Also, NPS is a market-linked product. To sum it up, though both are retirement savings options, in the long term, a substantial retirement corpus (by beating inflation) can only be created by investing in market-linked NPS. Its tax benefits combined with the flexibility of how and where your money gets invested to make it an ideal retirement investment product, he added.”
Once you have your finances in place that will take care of some of your post-retirement expenses, you can slowly move to equity investing to earn returns beyond inflation while accumulating the much-needed corpus to meet your fund requirements in the future.
Assuming that you start earning at the age of 25. You must aim to save and invest till you turn 55 years old. The ideal asset allocation would be 60-70 per cent in equity with the remaining being in debt instruments. You can also opt for a retirement fund that invests your money in the stock markets for the next 25-30 years of your life. You can either invest in a lump sum or through systematic investment plans (SIPs) in active and passive mutual funds. The idea is to diversify between funds that can earn you adequate returns irrespective of which way the market sways. After every year or two, you must rebalance your portfolio to optimal levels to manage risks.
There is another approach to retirement planning wherein you divide your investments into pre-retirement and post-retirement phases. Successful retirement planning would involve planning for both phases.
In the pre-retirement phase, you allocate your resources to various investment options depending on how much you wish to accumulate and your risk profile. You can start by choosing between different investment options including high-risk equity options that earn you rewards in the long run, a bit of gold to hedge you against inflation, silver exchange-traded funds (ETFs) so that you may gain from the drastic movement of silver prices, real estate investments, some liquid funds wherein you set aside a part of your emergency funds, bonds and more.
You can devote the first few years of your life to taking risks, though you must be careful of the kinds of risks you are willing to take. Avoid putting money into cryptos and non-fungible tokens that have no base and are subject to extreme price fluctuations.
Pratibha Girish, Founder, Finwise Personal Finance Solutions says, “Retirement is a core goal, one needs to invest in stable assets which have been around and offer stability when planning for a core goal. Cryptos, NFTs, etc. are speculative assets subject to extreme volatility and even large complete capital loss. This can lead to retirement capital being depleted requiring one to downgrade their lifestyle.”
Remember that this phase would continue for the next 25-40 years, which is why you must be careful with the investment opportunities you choose from. Though you can always switch between various available investments, frequent switching will damage your prospects of you gaining from your earnings in the long run. Also, make sure that you have set a realistic retirement corpus target and then invest regularly to reach the same.
Depending on your risk appetite, you may park your earnings in exclusively equity-based funds with varying market capitalization, balanced advantage funds that switch between equity and debt depending on market fluctuations, dividend yield funds that continue to earn from dividends unbiased of stock prices, and sectoral funds for cyclical returns. You can also put your money into value funds that invest in stocks deemed to be undervalued in price based on fundamental characteristics or tax-saving equity-linked savings schemes (ELSS) that save taxes while earning from the markets too.
Also, during this phase, you will face circumstances that will force you to revise your goals. These may include planning for children’s higher education, buying a home, and more. This would require you to be enough flexible with the financial planning strategy that would be long-term in nature. Suresh Sadagopan, Founder, Ladder7 Financial Advisories says, “We need to plan for all life goals including retirement. The other goals need to be planned for and provided as well. It is not one over the other.”
Girish added, “When a young person starts planning the amount of corpus and hence the savings required can be daunting. One normally would tend to think that it is impossible to put together such a huge sum. The key is to understand that your income will also grow over the years just like your expenses (likely at a much higher rate than expenses) and hence the task is possible. The crucial thing, therefore, is to start and be focused. You can start with a small investment towards each goal and keep increasing it every year by 10 per cent, that becomes doable.”
Deepali Sen, Founder Partner, Srujan Financial Services LLP says, “If the existing assets and/or future cash flows are scarce then you need to prioritise the goals and budget the monthly expenses. And retirement stands before a kid’s higher education not in terms of the time of need but in terms of the criticality of goals. Because children can get educated through a student loan, one may not easily get a job after retirement if the need is to work for money. So basically, we have to do a balancing act for all the impending goals, a big component should go towards retirement and home buying. The home should be for living in as buying it for investments may not make sense.
“Also, while buying the house it makes sense to buy the house as per needs, not as a luxury or for high comfort. Since homes are costly, one is most often required to take a loan for it and if you take a loan of a big amount then the high EMIs or long tenure leaves less money for other goals, she added.”
This phase involves the reallocation and distribution of your accumulated funds so that you can pay for your expenses after you retire. This is important as you will be old and frail with the passing days and have limited or no access to regular income. There will be a lot of added expenses, especially those involving age and hospitalization, so you must plan your post-retirement finances accordingly.
You must start by looking at the total retirement corpus accumulated to date and then decide how you can generate an income stream from the same to pay for your expenses. This you can do by depositing the entire corpus in a fixed income plan and then using the monthly interest from the same. This will ensure support for your post-retirement lifestyle without exhausting your corpus amount.
This distribution phase would now require you to transfer all your earnings from equities and other sources to a fund or account that will take care of your post-retirement expenses. This will involve a transition from the pre-retirement phase to the post-retirement phase. The transition must be smooth and not drastic, especially, if you have a major portion of your earnings stuck in equities and if the market is undergoing a bearish phase then.
The transition from accumulation to distribution must not happen all at once, especially, if it is a high-equity portfolio. In fact, you must move the money at different phases of your life to reduce the risk of the market downturns eating into your portfolio returns.
Phase 1: The first transition phase must start when you turn 55 years old. To start with, check out the funds that involve the highest risk factor and have been in existence for more than a decade. Assess to what extent these funds respond to sudden market upheavals. Gradually, redeem the earnings from these funds to more secure options like fixed deposits, recurring deposits, post office deposits and short-tenure bonds. You can use the interest earned from them to meet your expenses.
Make sure that you do not wait for too long to withdraw your earnings else you may succumb to market crashes and lose the money that you had earned for a period. Statistics reveal how the stock markets are fated to crash at least once in a decade or two, thus, raising the risk of your retirement corpus being depleted.
Phase 2: The second transition must be when you turn 55 years old. This is when you start reducing your equity allocation gradually in a linear fashion. You can reduce your equity stake first when you turn 55 by reducing it so that only 60 per cent of your money is in equity by the time you turn 56 years old. Then gradually redeem your equity holdings to 50 per cent, 45 per cent, 40 per cent, 35 per cent and then 30 per cent till you reach 60. By this phase, you will have accumulated enough from which you can then earn enough interest to manage your savings. Keep the remaining in equity holdings that you can use at a much later stage or let it accumulate to create a legacy for your loved ones.
Phase 3: The third transition involves deciding once you have turned 60 years old. Assuming that you have amassed a reasonable corpus amount that you can rest on. Do not make the mistake of chipping away the corpus to pay your bills. Instead, reinvest the amount in fixed income instruments that involve the least risk while helping you to earn reasonable returns. These returns are mostly moderate but will be enough to live your post-retirement with ease. You can retain the remaining amount in equity securities to generate inflation-beating returns.
While most equity allocations must be done with growing age, you must keep in mind the market conditions too before deciding the apt division between equities and debt.
Focus on well-planned retirement
Planning for retirement must be done in different phases. This requires a different set of rules for each phase. Emergencies may come knocking at your door any minute, so make sure that you are prepared to face them. Do not do away with your health insurance plans once you have retired. Remember that you are more prone to falling ill in the later years of your life, so keep a health policy running always.
Many people plan their investments without keeping their retirement in their purview. This causes them to chalk out a haphazard retirement strategy. With a proper retirement strategy in place, it becomes easy to face the various changes and challenges that life throws at you.
Old age is unavoidable wherein you are left with only your memories and savings. So, make the best of them to your benefit.