Deploying Retirement corpus – a case study

This post is inspired through a discussion I had some time ago with a long time friend. He was considering to get out of his current corporate job and wanted to set up a passive income stream that would take care of his regular expenses. When I pointed him to my posts on this topic he said that, while he had read those posts and understood the situation from my context, he needed to set this up from scratch.

The discussion set me thinking and I wanted to look at a situation which many people may be facing when they are nearing retirement or are considering an early retirement. While generalization is always difficult, a typical situation of such a person may be as follows.

  • The person has an own home which is fully paid for by now.
  • He has a PPF account for a long time but has not contributed the maximum in a regular manner. Current balance in the account is 24 lacs (say).
  • His children are either independent or in college. In the latter case he has made arrangements for the remainder of their education expenses through FD etc. This is not linked to the passive income that he wants to have.
  • Fixed deposit amount is 20 lacs, PO MIS is 9 lacs in a joint account.
  • PF and gratuity will come to 1 crore when he withdraws it.
  • MF portfolio is 20 lacs and stock portfolio is 6 lacs.

Based on this, how should the money be deployed so as to get a passive income of about 7 lacs a year? There may be many ways but the framework suggested below is a good one:-

  • Keep the current MF and stock portfolio intact for the long term. You may need it for situations such as long term care, beyond the age of 80.
  • New investments in PPF are not needed but keep the account active by paying a small subscription every year. This is your fall back mechanism if you suddenly need money for some unforeseen event. Also the interest of 1.8 lacs a year is tax free.
  • 9 lacs of PO MIS will give an interest of 68400 every year. Use this for your income.
  • FD of 15 lacs can be put in Senior citizen scheme if you are eligible. The interest from this will be about 1.25 lacs.
  • Divide the 1 crore obtained from PF and gratuity as follows:
    • 30 lacs in tax free bonds. This will give you an income of 2.3 lacs per year.
    • 30 lacs in some dividend paying debt scheme such as Monthly Income Plan or Balanced funds. This will give you an income of 2.4 lacs odd.
    • 10 lacs in a Liquid fund. Income from this will be about 70000 a year.
    • Rest 30 lacs can be put in FMP or other Debt MF (short term) in the Growth option. After 3 years you can use the capital gain for consumption and reinvest the principal amount. This is mainly for discretionary expenses such as a vacation abroad etc.

What about inflation? Well, you have enough hedges in the plan for that. PPF can be drawn into, LTCG from FMP or debt funds are there and equity part will hopefully grow. Also over a period of time the 7 lacs needed in current terms may not suffer as much from inflation as we think. However, even if it does, the plan above is likely to cover it.

Note that the above is a low risk plan where your passive income is pretty much assured. Other options where you put more money into equity are possible but they come with a higher risk. You do want peace of mind when you are at this stage in life!!

So with an overall asset base of 1.79 crore (plus house), you can comfortably generate a passive income of 7 lacs and take care of the future also. I hope this convinces people that you do not necessarily need 5-6 crores to have a decent retired life. More importantly, you can lead the life you need to lead at the right time for yourself and your family.

An asset base of even 1.5 crores, deployed creatively, may well be enough for this person to retire. Take this framework as a reference and arrive at your own plans for that.

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Cash flows in retirement – A personal perspective

In a previous post, I had outlined about the 3 decades in retirement and how one could have a simple framework to explain the dynamics of how they will be lived. The first one is the Go-Go decade where you try to fulfil many aspirations you had over the years gone by, the second is the Slow-Go decade where you still do many of your activities but on a significantly reduced scale and the final one is the No-Go decade where you are virtually winding down and kind of waiting for the inevitable end. Of course, this is assuming you are retiring in your 50’s and will need to be expanded in case you retire earlier. 

In the Indian context, however, this framework will work quite well as most people do retire in their 50’s and, despite medical advances, few live to be beyond 90. Once you have understood the framework, it will be fairly easy to outline how these decades will go in terms of your life activities and plan out your cash flows for the same. Understand that this is an individual exercise and cannot be reduced to formulae and calculators !!

When I started to look at my situation in the Go-Go decade in terms of my life, this is what I came up with. Some of it is, of course, not completely certain but it seems very likely to me that things are very likely to pan out as I write them here:-

  • I will still be actively engaged in professional activities in the first half of the decade but it will taper down over the next part.
  • Both my children will be relatively settled in their careers at the start of the decade and are likely to get married within it.
  • I am fortunate that my parents are living and in reasonably good health. However, another 10 years will be probably too much to hope for.
  • We will definitely shift from Hyderabad to Kolkata in this period, quite possibly in the next year or so. It is possible we will buy an apartment in Kolkata unless we get very good renting option.
  • As both Lipi and I love travel and we have time now, this decade is likely to see a lot of it. I estimate 1 trip out of India annually apart from another 3 within the country.  Most of these will have the two of us, hopefully there will be some family vacations too.
  • Our other lifestyle choices like entertainment, dining out, engaging in our hobbies will probably remain the same as it is now.
  • Both Lipi and I will probably engage in some non-commercial activities which are beneficial to the society at large.

What will be the cash flow impact of the above? I looked at my present context and tried to look at all categories of cash outflow at current prices. I am assuming that the first decade starts in 2019 and ends in 2028 – calendar years both, for simplicity. I will estimate cash flows in terms of Retirement Units ( RU ), as I am not very comfortable providing actual numbers. Intelligent readers should have no difficulty in figuring out the Rupee value of each RU !!

Here is how I divided up my cash outflow categories and estimates of amounts:-

  • Monthly recurring costs : This head includes everything that happens monthly namely food, groceries, eating out, entertainment, parental support, utility bills, subscriptions and maintenance etc. In the present context we spend about 5000 RU annually here and it will remain the same.
  • Accommodation : Presently our rent in Hyderabad is annually at 2500 RU. This gets taken care by the rent we receive from our Chennai apartment. We may buy something in Kolkata if we sell that.
  • Travel : in 2017 our spending on this was about 4000 RU. With increased travel I am estimating this to be 5000 RU annually for the first decade.
  • Emergency kitty : I am estimating this to be 2500 RU annually.

So in the first decade we are looking at annual cash outflow of 14000 RU. As long as our passive income generates this kind of cash inflow we should be fine. Let us then take a look at the same. My idea here is to generate these amounts from the Debt side as I want my equity investments to grow for the next decade. Of course, dividends are welcome. I am expecting cash inflow from these avenues :-

  • Rent from Chennai Apartment – 3000 RU
  • Interest from tax free bonds and InvIT – 2500 RU
  • Dividends from MF schemes – 2000 RU
  • Capital gains from FMP – 5000 RU
  • Dividends from stocks – 1500 RU

So with the above inflows I should be able to meet the needs without really having to redeem the principal amounts in most cases. From a financial asset standpoint there are a few things I am not using in this plan. They are as follows:-

  • Entire stock and MF portfolio which is 60 % of my net worth.
  • PPF interest – currently it will have an annual value of 3500 RU
  • POMIS interest – it is only 600 RU and can be used for minor emergencies
  • Any active income – difficult to put a value but for the next few years it should be in the range of 10000 RU and more. The plan is to use it for children’s marriage cost.

Based on all of these, I feel quite well covered for the next decade. Yes, we do not know what all can happen but so far so good. What about the next 2 decades? Well, with my equity portfolio growing at a faster pace that inflation, I do not think there is really a need to worry about them. 

If you are in retirement or are going to be retired shortly, try to work out your figures based on this post. You will gain a lot of confidence from it, assuming of course you are invested in the right manner.

An MF portfolio for retired people in 2018

This post is in response to the several requests I have received last week asking me two questions. The first was to check whether retired people can have an MF portfolio and what should it be. The second was on the overall deployment of the retirement corpus. I am tackling the first question here.

Most of us are familiar with creating and investing in an MF portfolio during our active earning years. We start off in a small manner, keep increasing our investments as our incomes keep rising over the years and hopefully get to a stage of having sufficient corpus in hand when we retire and no longer have an active income. This post is about the aftermath – what happens when we retire and id there a way in which we can deploy the corpus through MF? 

Firstly, let us examine whether it will make sense to be invested in equity as an asset class after retirement. My view is, unless your corpus greatly exceeds your needs, you will need some amount of equity growth to take care of unexpected circumstances which can impact any of us. This can be a sudden illness, some other emergency in the family or simply having the good fortune of living longer than what you had estimated. Being invested in only debt instruments and drawing out of it, may result in a situation where you run out of money when you need it the most. I. therefore, am a big supporter of being invested in equity to the extent feasible even in the retired stage of life.

Secondly, the question arises as to how should you be invested in equity then? Well, the ideal way will be to keep having your 3 portfolios of Debt, MF and Stocks even in retirement. You start realizing money out of these portfolios in the same order so that your equity investments have the maximum chance to grow. However, as many readers will surely point out, what happens when you do not have sufficient corpus that allows you to follow this strategy? One way will be to invest in equity through MF which carries a lower risk by their hybrid nature. You are now not in a growth phase of your corpus but in the drawing down phase. At the same time, you want to ensure some decent growth as this will ensure the longevity of your corpus.

The following portfolio is again taken from Investors Guide and has been suggested by Dhirendra Kumar of VR Online. The idea is to put most of your corpus, save some emergency money, into the following funds:-

  1. FT Dynamic PE Ratio fund
  2. HDFC MIP
  3. Reliance MIP

Note that the choice of funds ensure that the risks are contained either through Debt investments for 2 and 3, or through market actions in the case of 1. Let me take an example to illustrate how this will work in real life.

  • Consider a person who will retire in the next 2-3 years and has about 1.5 crores with him. He can put 50 lacs in each of these funds.
  • For taxation issues, investments in 2 and 3 should be ideally done 3 years prior to the first year when money has to be withdrawn.
  • The growth of the portfolio will be about 10 % on an average.
  • Withdrawal rate can be about 6-8 % of the portfolio value, depending on the need.
  • In the first year this will give about 9-12 lacs which is sufficient for most of us to run their annual expenses. I am assuming here that the investor already has a home.
  • The surplus can be invested in some safe avenue or reinvested in these funds if some risk is OK.
  • In case the corpus is 1 crore, the withdrawal will be 6-8 lacs in a year.
  • Assuming a 6 % inflation, this will last about 20 years or more with a reasonable degree of comfort.

Note that depending on the corpus available, you can have more complex bucket strategies but this is probably a simple hassle free way to achieve what you need.

You can, of course, have alternate portfolios with slightly higher amounts of risk if you are having a larger corpus. In that case look at Balanced Funds and Equity Income Funds as your preferred choices. One such portfolio can be as below:-

  • ICICI Balanced Advantage Fund
  • DSP BR Equity Income Fund
  • BSL Balanced Fund
  • Reliance MIP

In this case, put about 40 % in the MIP and 20 % each in the first 3. If your overall portfolio grows at an average rate of 10 % plus and you are starting with 1.6 crores then the portfolio will allow you to withdraw 75000 Rs per month at current prices, even if you consider inflation to be at 6 %.

I hope all of the readers in retirement or shortly going there will be able to work out their appropriate MF portfolio with these guidelines. In the next posts I will look at an overall deployment of retirement corpus.

Retirement planning – dynamics of time and activities

Of late, I have been doing a lot of reading on the topic of retirement planning. I must say that, while there has been a certain level of interest about retirement issues in India now, much of the good inputs come from the US, where this has been a topic of great interest over several decades. One of the areas most of the financial community there agree on is the need to structure your decades of retirement by activity levels. In this post I will try to suggest a framework, we can adopt to our context in India.

One of the important differences between US and India that we need to keep in mind is the age of retirement and life expectancy. Many people in the US work till the age of 65 and consider they will live till 90. In the Indian context, it will make sense to look at these figures at 55 and 85 respectively. Yes, I know many people retire at 60, but with the focus on shorter career spans along with many wanting to look at doing other things, 55 will be a good age to aim for. Moreover, with the passage of time, more people are going to have non-traditional careers where the working in regular jobs will have shorter life span. The other aspect is life expectancy – I feel with the current state of medical advances, it will be logical to take 85 as the figure. Again, it is possible to live beyond that and you must factor that into your plan. In the end however, a 30 year retirement period which you need to plan for and fund will probably do the trick.

Ok having established the above, let us now turn to a framework of the 3 decades. I will follow the terminology from an US blogger. He calls the first decade to be the Go-Go decade, where you are going to be quite active. This is the time to catch up on all the family visits, travel the world, organise your monetary and other affairs, spend time with your adult children and to indulge in the hobbies and interests for which you may not have had much time during your working life. The second decade is termed as the Slow-Go decade, where you still do much of the earlier stuff, health permitting, but there is a palpable slowing down in both the numbers and frequency of activities. The final decade is termed as the No-Go decade where you will mostly be indoors with limited activities.

If we adopt this framework to the Indian context, how will things look? I can think of the following for the first decade, in terms of the situation and the activities:-

  • You will still be actively engaged in some professional activities but not a regular job any more.
  • Your income will mainly come from passive category with some active income.
  • It is likely that your children are into their careers now or at least finishing up their post graduate education. 
  • They will also possibly get married in this decade of your life.
  • With time and hopefully money in your hands, you can look at travelling much more than you have done earlier.
  • You may want to replace some assets such as cars or white goods.
  • You can also indulge in your hobbies and interests in a more significant manner. If these are outdoor in nature, this is obviously the best decade to do so.
  • You will settle down in your home town or your place of retirement during this decade. Catching up with friends and family there will be a good part of leisure.

In the second decade, the professional activities will probably cease. Your outdoor aspects such as travel or any active sports will also taper off gradually. While you will still be healthy ( hopefully ), you will not be too inclined to venture out of home. This will probably be a time to view movies in home theatre as opposed to the cinemas and to order food in as opposed to driving out to a restaurant.

In the third decade when you are 75 plus, it is very unlikely that you will engage in a lot of activities that require a lot of physical exertion. Yes, it will still be important to do regular exercises, but your travels and other outings reduce drastically. Visits to the doctor are, unfortunately, going to increase in frequency. We can look at this decade as the winding down phase, where you should take care of your affairs, rest as much as you need to and hope that the passing away, when it happens, is a relatively smooth affair.

What happens if you live longer than you have estimated? We need to understand that this is possible, given that many people are living well into their 90’s nowadays. While you will either be almost inactive, if not in some long term care facility, there is clearly a need to plan for this financially. The last thing you need at this stage of life is to worry about money or being dependent on your children when you are at your most vulnerable. Any financial plan should include a final 5 years for you and your spouse.

Once you have chalked up your road map, we can start to put a financial dimension to it. This should be done in a bottom up manner, by understanding your lifestyle and then working out the relevant cash flows needed in the 3 decades. This is conceptually a little difficult and I will explain with a personal example in the next post.

Retirement corpus needed is a function of real returns

In an earlier post, I had written about how our lifestyle choices in retirement will influence the amount of retirement corpus we need to start our retired life with. I also wanted to write a post with my personal example but, with some other engagements, I have not been able to get down to it. I hope to do it this weekend.

The retirement corpus is also a function of the real rate of return you are able to get. For those who are unaware of the term, the real rate of return is the difference between your return on investments and inflation. So if your portfolio is giving an overall return of 9 % and the inflation in the economy is 7 %, then your real rate of return is 2 %. In one of my earlier posts, I had shown a simple way to calculate a retirement corpus by assuming the real rate of return as zero. Interested people can read the post here.

So in order to recap that post, if you are retiring at any age and have X years to live with an annual expense of Y, then your retirement corpus needed will be XY. For example, I think I will live for 30 years max and my annual expenses may be in the range of 12 lacs per year. According to the formula XY, I will therefore need 3.6 crores. Note that this assumes two things – firstly, my money will only grow at the rate of inflation and, secondly, I will not have any corpus left when I finish the 30 years.

Now, I may not be lucky to have this amount. In this case, I can simply keep trying to earn some active income, hope to get a lottery or depend on my children to tide by my later years. As I do not fancy any of these strategies another option can be to reduce my spending. For example, if I can somehow do with an annual expenditure of 8 lacs then the corpus needed is only 2.4 crores. However, this will now compromise with the lifestyle I want to have, especially in the area of travel. Fortunately, there is a way out of this and I will show you how to do it.

The trick is in organising your money in such a manner that you have some real rate of return. Let us say, I use debt MF and hybrid funds to increase my returns to 8 % and inflation rate for me is 6 %. With this real return of 2 %, it will be quite possible to have a significantly lower corpus retirement. There are calculators available in the public domain which you can use so I am not getting into that. However, here are the outcomes.

Assuming 30 years to live and 12 lacs per year as the annual expense:-

  • With a real return of 0 %, corpus needed is 3.6 crores.
  • With a real return of 1 %, corpus needed is 3.28 crores.
  • With a real return of 2 %, corpus needed is 2.83 crores.
  • With a real return of 3 %, corpus needed is 2.46 crores.

I can go on but you get the point. The idea therefore will be to organise my money to generate a decent level of RRR so that even with a lower corpus there is a chance I get to lead the lifestyle in retirement that I am desirous of. The flip side is this – to generate high RRR, I will need to take more risks in my money and definitely put some of it in equity. This is fine with me as my basic 3 portfolios of Debt, MF and Stocks are something I am quite comfortable with. If you are not fine with the risks you can only deal with RRR of 1 % or so. In that case you will need a higher corpus, a lower annual expenditure or hopefully a pension from the company where you work now.

I will write some more posts on retirement, follow the blog to get those.

Cash outflow in retirement is a function of lifestyle

Over the years I have planned my financial independence, where I would have no need for an active income. This entailed creating the 3 portfolios of Debt, MF and stocks. If you are interested you can search my blog to read about my financial planning, there are quite a few posts on it. The important thing to understand here is that for me and anyone else, the amount of money needed in retirement will be a function of the lifestyle you want to lead. 

For example, you can say that you just want to have a simple lifestyle in your home town without too many activities such as entertainment, dining out or travel. In this case, your expenses are likely to be reasonably controlled and maybe a figure of 6 lacs in current prices will suffice annually. On the other hand you may be a person who wants to have a vacation abroad every year, visit your children once in 6 months, have a car and driver to take you places etc. In such a scenario even 15 lacs per year may not be adequate.

So how do you go about estimating the kind of cash flows you would need in order to be able to have the lifestyle you want? One of the major assumptions I will make here is that your retirement period is 3 decades. Since most of the people retiring today are unlikely to do so before they reach 50 and almost many will look at 60 years or close by, this is a reasonable assumption. The mistake most people make is that they feel the expenses will be constant over the period of these 3 decades. In fact many people I know spend less initially as they are worried about inflation and their money running out.

If you look at this in a logical manner, you will probably do far more activities in the first of the three decades. Let us say you have retired at 55 years – now till you are 65, you will probably be in good health and therefore be in a great position to indulge in your hobbies and passions. The second decade will definitely see a reduction in the physical activities, for example your frequency of travel will reduce significantly. The third and final decade will probably see very little activity outside home.

Now, if we have to provide a framework for all the cost elements that are required to be funded in retirement, it will probably look like this :-

  • Accommodation : Most people having their own house or apartment will need to have maintenance costs. Even if you are having a property somewhere and can fund your accommodation expenses through it’s rent, you are in good shape. In case you need to rent that will prove progressively more expensive with each year and therefore need a fair amount of assets.
  • Running costs : These include daily living costs such as food, help expenses, utilities, maintenance, entertainment, clothing etc
  • Insurance : Term insurance should be junked in retirement and you need to have Medical and home insurance for as much as you can possibly afford.
  • Asset replacement : You will need to replace some furniture, quite possibly several white goods and also your car, once or more in these 3 decades. It is best to be prepared for it, very often we do not take it into account.
  • Children related : I hope the higher education of the children and maybe marriages are over by the time you retire. Even if they are not, you need to keep a separate fund for it. Do not mix it with your retirement goals or plans. Also, while it is perfectly all right to give gifts to children, in your retirement you r children should not be needing monetary support from you in any manner.
  • Travel : If you are a travel crazed person, like I am, you better estimate these expenses in a proper manner. Travel abroad is obviously expensive but even travel within India is getting there, especially if you account for the fact that at an advanced age you will need to travel in some comfort.
  • Hobbies : Whether it is Golf, attending live music shows or visiting literary or theatre festivals, hobbies can be expensive. However, at this stage of your life you do need to indulge in them and therefore you have to plan accordingly.
  • Health related : Even with health insurance, there is no guarantee that all mishaps will be covered adequately. As the decades go by, whatever you reduce in travel and hobbies should be kept for this purpose.

We can keep adding other categories but the above are good enough to arrive at a reasonable basis for our retirement expense calculations. How do you do it?

  • Take your running costs based on your current expenses at the time you retire. Let us say this is X.
  • Take other costs as a factor of X. For example if you are a frequent traveller then you may want to keep 0.5 X as your costs here for the first decade. Remember it is also a function of what X is. For example if you live frugally then X may be 4 lacs and you may need to keep 3 lacs for travel, especially if you are looking to travel outside India.
  • Some costs are not annual in nature. For example asset replacement may well cost you 5X BUT it will be only once in 10 years or so.

I hope you have understood the concept by now. Doing this for 3 decades will tell us what is the total cash flows that we need at current costs. You can then check as to whether you have adequate inflows either from your assets or other sources.

The proof of the pudding is always in the eating though, and I will explain this framework with my personal situation in the next post.

Financial plan for the retired – A guest post

This is the first guest post in my blog and I am happy that my friend Biswanath Sengupta has penned down his experiences and thoughts on how he is going to manage his financial life in retirement. Biswanath and I were college mates while doing BE in Computer Science & Engineering at Jadavpur university.

Without further ado, here is Biswanath in his own words :-

My Financial Take – For Retired and Retired hurt People Only.

This is my first tryst with the financial instruments. I formally retired from the corporate services at an age of 55 yrs. Obviously I will be active and earning in the startup world, but at present it’s minuscule compared to the corporate earnings and the future is unknown. I have my set of liabilities as well. With high competition and automation and fast change in business scenarios we are having a significant number of retired hurt cases post 50 yrs in the service industry.
I have consulted many financial experts and did my studies as well . I am a conservative risk averse investor and as per normal life cycle would expect to live for another 25 years. Here are my few takes and learnings.

1. Practical inflation rate is 8 percent plus , irrespective of whatever the govt of the day claims.
2. The cost of living does not decrease significantly after retirement.
3. Cost of healthcare increases at the rate of 12 percent. With high pollution and global warming and junk food, incidence of lifestyle , tropical and cancer increases alarmingly.
4. Except for the Pension Schemes of the Central and State Govt employees , all other pension schemes are useless as they only give an annuity of @6-7 percent which post tax is around 5 – 6 percent.
5. As the economy grows and become global the Fixed deposits rates will come down significantly and likely to settle around 4 – 5 percent per annum meaning post tax rate will be 2 – 3 percent.
6. Most of the investment consultants are fresh or junior MBA’s with no experience of economy and life and are busy selling their products. They are useless. Experienced financial advisers are rare and pricey.
7. For many non pensioned retirees the standard of living deteriorates after 10 years of retirement and they struggle for existence after 15 years.

My learnings on how to live happily for most of your life post retirement.

1. We have to move out from risk averse FD zone unless we are ready for an effective yield taxed at your taxed rate for around 3 – 4 percent.

2. PPF, Post office schemes , Sr citizen FD limit can be exhausted.

3. Have only emergency money in FD .

4. Move 50 percent into debt or MIS schemes . Any standard advisory can support you on the same. You only have to check your portfolio once in three months. The effective post tax yield will be around 7 – 8 percent with low risk and better tax treatment as they come under LTCG after 3 years.

5. You have no choice other than to move 30 – 40 percent of your corpus into equity market to generate return and wealth. You can do this via a good equity mutual fund or thru an experienced portfolio advisory. Please do not venture on your own untill you are an expert. I trusted a portfolio advisory got a CAGR of 30 percent irrespective of the market conditions. This is the only steam of my survival. These days there are good portfolio advisories which starts from an investment of as small as Rs. 5 lakhs.

6. Have a medical insurance ASAP. If your medical insurance is less than 5 lakhs then create a seperate corpus to meet your additional need via debt MF.
7. There is nothing like minimum corpus required . They are all myths. Start courageously with what you have. Let the destiny prevails.

8. You are lucky if you have more than one house as that generates income in terms of rent and reverse mortgages in your winter days.

Enjoy retired life.