Retirement planning is crucial for a financially secure future, but many people often ignore it. It’s widely believed that the savings and pension would be enough for post-retirement life. Retirement planning is a must for every salaried individual as the expenses and lifestyle would force to rely on children or spouse or other family connections if savings is not done efficiently. It is always better to calculate how much money is needed to save to ensure a comfortable and secure retirement. In this blog we will explore factors to consider when determining retirement corpus.
When you are planning for retirement one core question that needs to be answered is
How Much Money is Needed for Retirement??
The amount of money needed for retirement in India varies depending on various factors such as your lifestyle, goals for life after retirement, source of income, inflation, etc. However, considering that you will adequately make expenses after retirement, you can estimate your retirement corpus through a simple formula.
Retirement corpus = (annual expenses after retirement X number of years left in retirement) / (1 + inflation rate) ^ (number of years left in retirement)
For example, if you want to retire in 40 years, estimate your yearly expenses after retirement to be around ₹10 lakhs. So, with an inflation rate of 7%, you will have to save 3 crores for your retirement. However, this goal can be achieved by making some effective investments.
What is the ideal retirement corpus?
- The post-retirement financial corpus is estimated at an average of Rs 1.3 crore, which is observed to be less than 10X of their current annual household income reflecting the need to educate consumers about the recommended levels of retirement corpus. With regard to retirement, an industry norm is the 30X rule, which means that your retirement corpus should be at least 30 times your annual expenses today.
What is the 30X Rule?
- The 30X Rule is pretty simple. It is a way to estimate how much money you need for retirement. It is based on your current annual expenses and multiplying that number by 30. In other words, your retirement corpus should be at least 30 times your annual expenses of today. For example, if you are 50 years old and your monthly expenses are Rs 75,000 (or annually Rs 9 lakh), then as per the 30X rule, you need 30 times Rs 9 lakh to retire comfortably. That is Rs 2.70 crore.
- The 30X rule is an extension of the globally popular 25X formula, which, in itself, was based on the 4% withdrawal rule. That is, if your retirement corpus is 25 times your annual expenses, then that allows you to withdraw 4% from the corpus every year.
Is a retirement corpus of 30x expenses enough?
- Retirement planning has just too many variables and assumptions. And it is for this reason often called “the nastiest & hardest problem in finance”. When you do proper retirement planning calculations (or an investment advisor does it for you), you will see that you have to assign values to factors such as expected returns post-retirement, inflation during retirement, the number of years you live in your retired life, life expectancy, post-retirement expense estimates, and so on.
- And while your assumptions might be conservative and chosen with the best intent, the fact is, between today and the next few decades of your retirement, so many things (and values of chosen variables) can change. Let me give you a couple of examples. Let us extend the earlier example where at annual expenses of Rs 9 lakh, using the 30X Rule, you need Rs 2.70 crore to retire comfortably.
- Say, at age 60, you have Rs 2.70 crore and the expected future returns are 7%, while the expected average inflation is 6%. If you start with Rs 9 lakh annual expenses, then your portfolio will run till age 95-96. So, the portfolio, based on current assumptions, is good for a little over 35 years. Now let’s change a couple of things. Say the actual inflation is 7% (and not the estimated 6%). Also, the actual expenses are Rs 11 lakh (and not Rs 9 lakh as estimated). What will happen? In this case, the corpus gets exhausted by age 84 due to higher expenses and higher inflation.
- So, while a 30X corpus may be enough for retirement in many cases, it might not be sufficient if one or more of our assumptions go astray There’s also the complication of early retirement, if that’s what is on your mind. A runway of 25-35 years will still be fine for those looking to retire at 60. But for those wanting to retire early, things could be a lot different. So, if you are planning on living solely on your retirement corpus for longer than 30 years (with conservative return assumptions), you will need to save more.
- Also, the 30X rule doesn’t take into account other expenses for which you should save separately, such as children’s higher education, house purchase, and for unexpected payouts like having a medical contingency fund. So, while the 30x rule might be good for many, it also assumes that you will not dip into your 30x retirement corpus to buy a house, spend on children’s education, etc.
- All said and done, the 30X rule is an oversimplification at best but nevertheless a good starting point. It is a useful rule of thumb to quickly estimate a ballpark figure about how much you need to save for retirement. But don’t rely on it blindly.
Employee’s Provident Fund (EPF)
- One of the primary sources of retirement income in India is the Employee’s Provident Fund (EPF), which is a mandatory savings scheme for employees in the organized sector. EPF contributions are made by both the employee and the employer, and the accumulated balance can be used for retirement. Here is an example to understand how EPF works.
- Suppose you are a 30-year-old salaried employee earning a monthly salary of INR 50,000. As per the EPF rules, both the employee and the employer contribute 12% of the basic salary to the EPF account each month. In this case, your contribution would be INR 6,000 per month, and your employer’s contribution would be INR 6,000 per month. Assuming an average interest rate of 8.10% per annum, by the time you reach 60 years of age, your EPF balance would have grown to about INR 90 lakh. The contributions made to the EPF account are eligible for tax benefits under Section 80C of the Income Tax Act, up to a maximum limit of INR 1.5 lakhs per financial year.
Senior Citizens’ Savings Scheme (SCSS)
Senior Citizens’ Savings Scheme (SCSS), is a savings scheme for senior citizens with a deposit tenure of five years and an option to extend it by three years. It offers a fixed rate of interest and is considered a safe investment option for senior citizens.
Example:
Suppose you are a 65-year-old senior citizen and have an investment corpus of INR 10 lakhs. You can invest a maximum of INR 30 lakhs in SCSS, and the interest rate for the financial year is 8%. The interest is paid quarterly, and the deposit term is 5 years, which is extendable by another 3 years.
In this case, the interest earned on your investment of INR 10 lakhs would be INR 80,000 per annum or INR 20,000 per quarter. At the end of 5 years, your investment would have grown to approximately INR 14 lakhs. Additionally, the interest earned on SCSS is taxable, but the tax can be claimed as a deduction under Section 80C of the Income Tax Act, up to a maximum limit of INR 1.5 lakhs.
Diversified investments
It is also important to have a diversified investment portfolio in retirement. Suppose you have to invest Rs 10 lakhs, and you wish to invest in a diversified portfolio. You decide to allocate the funds as follows:
- Rs 2 lakhs in a savings account or fixed deposit, offering an interest rate of 6% per annum
- Rs 4 lakhs in bonds, offering an interest rate of 7% per annum
- Rs 2 lakhs in stocks, offering an expected return of 10% per annum
- Rs 2 lakhs in real estate, offering an expected return of 12% per annum
At the end of the year, the interest earned on the savings account would be INR 1.2 lakhs, the interest earned on bonds would be INR 1.68 lakhs, the return on stocks would be INR 2 lakhs, and the return on real estate would be INR 2.24 lakhs. In total, your investment corpus would have grown to approximately INR 17.12 lakhs, representing a growth of 71.2% in one year. Diversifying your investments can help mitigate the impact of market fluctuations and reduce your risk.
Conclusion
- There is no perfect method of calculating your retirement savings target. Investment performance will vary over time, and it can be difficult to accurately project your actual income needs. There are other potential considerations as well. Many workers have to retire earlier than they planned. For example, about 3 million workers retired earlier than they anticipated because of the COVID-19 pandemic.
- Even in normal times, older workers often have to retire early due to layoffs, health problems, or caregiving duties. Saving for a longer retirement than anticipated gives you a safety cushion. It’s also important to consider the impact of inflation on your retirement plans. Inflation has gotten a lot of attention in 2023 as prices have increased at the fastest pace we’ve seen in 40 years. But even when costs rise at a typical rate, inflation hits senior households harder than working-age households. That’s because seniors spend a higher portion of their incomes on expenses such as healthcare and housing. These expenses tend to increase faster than the overall inflation rate.
