Retirement and financial planning

One evening, while sitting out in their courtyard after dinner, Rajendra and Leela begin talking about how time has flown since they married and moved into their own home. Rajendra lets his wife know how proud of her he is now that she manages both the home and her business so well. Her income has really contributed to investments for many of their goals.

They realise that within a short span of around 40 working years, they have to earn and save, after meeting day to day expenses, for all their goals in life. These goals include their short term and long term ones. Most importantly, they have to provide for their retirement.

Rajendra shares with his wife a piece of information that he has recently heard on business television: These days, with medical facilities, it is not unusual to enjoy a retirement which lasts for as long as 20 years – that’s about half your earning years.

The couple comes to the conclusion that they need to save and invest enough money to make their retirement years comfortable, at least. They cannot afford to depend on inheritances from the previous generation or income from the next generation. They decide to have a detailed talk with their friend and financial guide – Prakash – about retirement planning.

Social Security

Amongst other things, the programme that Rajendra watched on business television informed:

In the urban areas in India, there is a gradual break down of the joint family. This is due to a number of reasons, including lack of spacious houses, need for children to relocate to distant places for education or jobs, etc. This trend is catching on in the rural areas too. One of the results of this trend is that elderly people sometimes have to live alone and sometimes manage on their own finances too.

In developed countries, like the US, retired people receive an amount of money each month from the Government, to help them meet their needs. This is called social security benefits. It is over and above any pension they receive from previous employers and any money they may have saved and invested over the years.

In India, there are no social security benefits for senior citizens. They have to live on whatever they have saved during their working years and the pension they receive from their previous employers, if any.

Studies show that few people can afford to live the same lifestyle that they acquired just prior to their retirement on their pension and savings. Unfortunately, post retirement is the time when illnesses are most common and medical costs, which have risen considerably over the years, could form a large part of regular expenses. Until a generation or two ago, they were dependent on their children, especially sons, to maintain the family standard of living. However, with a change in social patterns, dependence on children too is becoming a less common option.

As a result of all these factors, planning for retirement should be given the highest priority in your financial planning exercise.

Planning for Retirement

Prakash is happy to discuss the whole issue of retirement planning with the couple.

“Planning for retirement is similar to planning for any other financial goal. The big difference is that it is perhaps the longest term goal you can set,” he begins.

“I don’t follow...” says Leela

Prakash explains, “What I mean is that most other large long term goals that we set are met before we reach retirement age. Once we retire, we tend to slow down. We stop saving and investing for the future and begin consuming what we have saved and invested in the past.”

“You make it sound like the good life comes to an end after retirement...” said Rajendra, half joking.

“Actually, it’s a time when the good life should begin...no financial duties and responsibilities to others; only follow your own heart and do all the things that you would have liked to do earlier, but could not due to lack of time...” said Leela.

“She’s very right,” agreed Prakash. “But that only happens if you have planned your finances for your retirement in such a way that money is something that you do not have to worry about at all!”

“Is that possible?” asked Rajendra.

“Why shouldn’t it be?” exclaimed Prakash. “After all, if you are successful at financial planning, you will have no debt burden.  All you need to do is figure out how much money you would like to have per year to live a lifestyle that you enjoy. Then make sure that you save and invest so that you actually receive that amount each year.”

“As usual, you make it sound so easy...” said Leela.

“Ok. Let me break down the exercise for you so that you realise that it is easy,” he answered.

• Decide how much money you will need to live a comfortable life style, assuming today’s costs. For simplicity sake, I will assume a figure of Rs. 12,500 per month or Rs. 1.5 lakh per year.
• Calculate how many years are remaining for retirement. Let’s assume that you have 15 years left to retire. With an average expected inflation rate of 5% per month, you will need an amount of around Rs. 3 lakh per year.
• If you live for 20 years after retirement, you will have to collect an amount of Rs. 1 crore for your retirement. This is because we assume that every year after retirement too, prices will increase by 5% and therefore your annual income should also increase by that amount to keep you comfortable.
• Don’t panic. Remember that if you invest wisely now, you could earn a rate of interest that not only beats inflation but makes your investments grow considerably.
• The Golden rule for retirement planning is: The earlier you begin, the better.

Retirement plans

Prakash tells the couple about the various possible sources of retirement income and leaves it up to them to decide which are relevant for them and which combination of sources suits them best.

Pensions and Employee Provident Fund (EPF)

This source of retirement is available to those who have been employed in companies which offer this long term benefit. They receive an amount of money each month after they cross a retirement age – which is usually 60 years but could be 58 years in some cases. This amount could increase marginally from year to year to keep up with inflation.

Every month, 10-12% of an employee’s basic pay is deducted and saved for him in an EPF account. His employer puts an equal amount into the account. This amount will earn interest over the years. The total amount can be withdrawn only under certain limited conditions before retirement. As a result, it collects during the working life of an employee and becomes a large amount by the time the employee retires.

Public Provident Fund

Any individual can open a Public Provident Fund account at certain designated post offices throughout the country and at certain designated branches of Public Sector Banks throughout the country. They can save up to a maximum of Rs. 70,000 per year in this account. They receive a return of 8% on the balance in this account. Under normal circumstances, investors are not encouraged to withdraw money put in such accounts until after a period of 15 years. Due to the long term savings nature of this account, it is a popular form of saving for retirement years.

Insurance plans

Retirement plans from insurance companies are usually long term in nature. If you begin contributing to such plans early in life, you receive a large amount when you reach a pre-specified retirement age (either 58 or 60 years). With this amount, you can purchase an annuity - which is a retirement specific product offered by life insurance companies. An annuity is a series of payments that you receive for a period of time after retirement – usually throughout your life - in exchange for a one time lump sum amount. This product effectively gives you a regular income throughout your life, much like a pension, no matter how long you live. Since it is an amount that you can determine and work towards, it is more likely to enable you to meet your post-retirement financial needs.

Other investing options

It has been shown time and again that stocks and stock based mutual funds offer the best results over a long period of time. As a result, investors may invest regular amounts of money directly or indirectly into stocks. However, as their retirement approaches, they may start gradually disinvesting from stocks. This money can either be used to purchase an annuity or put into post office savings that give regular returns. Regular returns from post office savings act as a pension too.

Source: Portal Content Team