Everyone has a dream, but there is one dream common for everyone – a peaceful retired life!
Especially when the stress levels of work have increased significantly most want to get financially independent and enjoy a good peaceful life. No wonder when we set up a financial goal – retirement planning is considered the most important one.
While setting a financial goal – the most critical one is a long-term goal of retirement planning. Especially considering the uncertainties in terms of career growth and stability, retirement planning becomes more imperative. It also becomes crucial as risk taking capabilities tend to be different as one approaches retirement age. Considering factors like the fast-changing world, changing technology and the most important factor called inflation – everyone is very puzzled about what would be a good corpus required to have a peaceful retired life. So, how to find a precise corpus for retirement by investing in equities or other financial assets?
If considered on financial aspects, relatively two long phases in our life are – accumulation and distribution. Accumulation phase is the earning years of a person’s life, when a person accumulates savings. Distribution phase is the retirement years, when some of the savings will fund the living expenses. While the accumulation phase has a benefit of certainties (income, age profile and even the risk-taking capabilities), the distribution phase has got many uncertainties. Though finding an exact amount for retirement corpus seems to be a complex phenomenon, it becomes simple when we try to answer a few questions. Rather, when you do any retirement calculations, you make some assumptions and you get an answer.
Amount Required Every Month of retired Life
The way one is spending today, expenses are going to be there even after retirement. Just with little changes over here and there. To decide a retirement corpus – one has to calculate the expected monthly expenditure after the retirement – where inflation plays its part. Things are going to cost you more as compared to what it costs today. Inflation varies from year to year; however, one can take a single rate of inflation as the time frame is longer. Without making it complex – a simple excel sheet formula is used to take out the exact figure of monthly expenses required after retirement based on the current monthly expenses. Just to put it in numbers – considering expenses of Rs 10,000, with an inflation rate of 7 percent would be Rs 54,275 after 25 years. So, we must create a corpus that can generate this much income at a risk-free rate.
While we have considered inflation-based expenditure, one also needs to consider income to be generated (based on the rate of returns) from the corpus one has built. So while on one hand the inflation would make its impact the invested corpus would generate some returns. And one has to consider the discounted return considering both the factors. In simple terms generate higher returns than the inflation taking lower or moderate risk.
Number of years to retirement
Number of years to retirement plays a vital role here. While setting a financial goal, the longer the period of holding (based on consistent CAGR) better the returns are. To generate consistent monthly returns – one must create a corpus till his retirement age. How to calculate it?
If the current age is 30, and the targeted retirement age is 58, then retirement is 28 years away. This time may vary from person to person. Like a few would like to take the career till last day – or there are few who would like retiring early. And a lot depends on it. Just to put it in numbers – in the example below (Table – Retirement Corpus Calculation) the number of years to retirement is 28 years. Based on it the monthly savings required are Rs 65,994 – However if the same is reduced to 25 years the monthly amount of savings required would be Rs 90,060. Or if it is increased to 30 years the monthly savings required would be Rs 53,844.
Here also there are two factors – one is time frame and second is higher rate of return. But historically it is time which plays an important role in wealth creation (Especially in equities and Mutual Funds).
Higher rate of return would mean higher risk to be taken. Naturally the investment instrument to be chosen (equity, mutual funds or any other alternative asset class) depends on different risk taking capabilities. Further as stated earlier, investment vehicles chosen after retirement also stands to be crucial decision. Usually it is set at the risk-free instrument rate, however then it is not possible to beat the inflation rate. Better to consider for different asset class like direct equity or equity mutual funds. Those who don’t have a risk appetite to go for equity-oriented assets, one can also have exposure to balanced portfolio of mutual funds schemes.
Number of retirement years to provide for
Next factor is, number of retirement years to provide for. Longer the duration of such a period more is the requirement of corpus. A basic concept suggests, the retirement should plan for the life-time of both partners. Further a longer period in case of concerns regarding earning potential of the next generation. One must understand that with medical technology changing for better, the rising life expectancy of people needs to be factored. The following table explicitly showcases the kind of calculations required to arrive at a right figure. Apart from inflation there are other factors as well. The table clearly shows how one has to calculate the corpus to be created to generate Rs 60,000 expenses for retirement. Here the calculations are being provided if one enjoys other retirement benefits like pension or other consistent income.
|Retirement Corpus Calculation||Without Pension||With Pension|
|a||Monthly Income Required in Retirement Years (Rs)||60000||60000|
|b||Pension Earned (Rs)||0||15000|
|c||Monthly Income to Provide for in Retirement Years (Rs)||60000||45000|
|d||Annual Income to Provide for||720000||540000|
|e||Inflation Rate to Assume (%)||7||7|
|f||Number of Years to Retirement||28||28|
|g||Number of Years to Provide For||25||25|
|h||Annual Income Required Immediately After retirement (Rs)||4787164||3590373|
|i||Post Retirement Investment Return (%)||8||8|
|j||Discount Factor for retirement Year (%)||0.935||0.935|
|k||Retirement Corpus Required (Rs)||(Rs 106,285,800)||(Rs 79,714,350)|
|Without Pension||With Pension|
|a||Annual Corpus Required in (Rs.)||106285800.1||79714350.06|
|b||Number of years to retirement||28||28|
|c||Investment Returns Expected up to Retirement (%)||10%||10%|
|d||Annual Savings Required (Rs)||(Rs 791,936)||(Rs 593,952)|
|e||Monthly Requirement (Rs)||(Rs 65,994)||(Rs 49,496)|
Selecting right instrument to invest
While we reiterate time and again that starting early is more important – selecting a right instrument is also the key. In the above example we have considered 10 percent CAGR as returns while creating the corpus. There are surely other asset classes that may give more than 10 percent like in equities a 14-16 percent CAGR has been witnessed historically. But again, the moot question is – does that align with the overall financial planning or does that suit your risk taking capability? Further the holding period of such asset classes is bit longer and hence alignment with time duration of financial goals is very much important. However, with retirement being considered as a very long term plan, having exposure to equity as an asset class would be advisable. However starting early is the key as compounding is what results in better returns. Hence, start early and the holding for longer period would take care of returns to be generated.
There are many mutual funds schemes available providing retirement plans and taking an expert advice is better way. Rest, it all depends on you. You want to build a corpus from equity (providing comparatively higher returns over a longer period) in a lesser time period or want to go for a consistent mutual funds scheme where experts take care on your behalf.
Remember, your portfolio should be a balance among income generation, capital protection and growth. Taxation also plays its part while calculating the corpus to be created and returns it can generate. However, taxation norms in case of retired people are comparatively lenient and hence won’t make a much of impact in the longer run.
While there is no thumb rule as such for what would be an exact corpus required to have a peaceful retired life, calculating the expenses adjusted to inflation will make it easier to come out with a ballpark figure. There are figures like 30x or 40x of annual expenditure to be taken as a good corpus. But as stated earlier, it mainly depends on what kind of expenses you have. There are financial calculators helping one to arrive at a figure. However, the best way to arrive at a right corpus figure is – calculating expenses adjusted to inflation and then selecting the right instrument and that too as early as possible. Corpus to be built for retirement depends on different assumptions like expected inflation rate, tenure of retired life and the investment vehicle selected. Start early, select a right instrument and longer duration of the goal will take care of the rest.
Whether you are in your 20’s or in your 40’s, retirement planning is a must!