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| Capitalstars Investment Advisor |
Ignoring or underestimating the effects of inflation on expenses through the retirement period is one of the biggest risks to your retirement savings.
In this day and age of rising medical expenses and inflation, it becomes all the more important that you do your retirement planning properly. It should definitely go beyond just your contributions to the Employees' Provident Fund (EPF) and the Employees' Pension Scheme (EPS). While experts recommend saving for retirement as soon as one starts earning, many people start taking it seriously only when they are in their 40s or 50s. Pushing your retirement planning to a later date takes away the advantage of compounding and many times one is unable to accumulate a corpus big enough to fund their post-retirement life.
While planning, you need to factor in various risks to make sure that your corpus outlives you. Remember that retirement is a long phase (for some of us it can last up to three decades), so it becomes all the more important to consider these risks in the planning stage itself. Here are few such risks and how you can tackle them while saving for your retirement:
1. Medical inflation
Healthcare costs are rising at an alarming rate. And this why ignoring the effects of aging and not adequately planning for expenses related to health can deplete your retirement corpus.
How to deal with it: To avoid such expenses from denting your retirement corpus, having adequate health cover while you are employed help. To buy the correct health insurance you must consider various factors like the reputation of the insurer, claims settlement ratio and so on. Renewing your health policy year after year with a particular insurance provider will help establish an explicit history of your insurance record, which is helpful while making a claim.
2. Inflation
Ignoring or underestimating the effects of inflation on expenses through the retirement period is one of the biggest risks to your retirement savings. Inflation will eat into your corpus bit-by-bit. This will pose a serious problem since life expectancy rates have gone up and the retirement corpus will have to last longer. For instance, if you start saving for retirement at the age of 30 and retire at 60 years, you will have a regular income for 30 years.
How to deal with it: "If you start your retirement planning as early as in your 30s, investing in equities can help you beat inflation. It is a no-brainer. Only equities can give you higher real returns," says Nisreen Mamaji CFP at Moneyworks Financial Advisors.
3. Falling interest rates
It would be worth noting that the interest rate on Employees' Provident Fund (EPF) for the financial year 2017-18 has been cut to 8.55 percent from 8.65 percent. For FY 2015-16, it was 8.8 percent 2015-16.
How to deal with it: Investing in products that yield high returns and rebalancing your investment portfolio is an efficient way to cushion the impact of falling interest rates. "As an investor, you need to be on top of the various investment avenues to augment the income. For instance, considering an AA company deposit over AAA-rated one could be an option, equity-based mutual funds just to give that extra alpha in the portfolio is another option but yes, all these options carry risk. So, a balancing act needs to be done to ensure the fall in interest rates is cushioned," adds Bhatia.
4. Longevity risk
One always hopes to live a long and prosperous life. But to live comfortably in your sunset years, you need to make sure that you have saved enough. Longevity risk refers to living longer than estimated and running out of retirement funds. For instance, if you have planned your retirement till 80 years and you outlive this number by 10 or 12 years, you'll fall prey to longevity risk.
How to deal with it: It usually happens when you have a fixed amount of money to fund your retirement and don't know how long it is going to last. While investing in high return assets from an early age is recommended to counter longevity risk, it is also advisable to give your corpus a little equity exposure post-retirement, which can be met best via balanced funds.
5. Unplanned withdrawals
Unplanned withdrawal from the accumulated corpus at an early stage of retirement may result in a shortfall in the later stages. So, it is important to identify the core expenses and prioritize them.
How to deal with it: Creating a contingency fund is an important rule of thumb in personal finance. It not only saves you from borrowing money during emergencies but it will also prevent you from putting other financial goals in jeopardy. Experts recommend creating an emergency fund that covers 3-6 months of your expenses.
"Financial crisis can hit anybody at any given point in life; be it for children or loss of a job or medical treatment and one may have to jeopardize other goals to counter that situation. So, if you compromise your other goals, be sure to reimburse them later on. However, you must keep a check on your aspirations and not take out money to splurge or indulge in impulsive purchases," suggests Mamaji.
Another watch out while saving for retirement is to avoid withdrawing your PF money while switching jobs. Doing so can prevent you from making a huge dent in your retirement corpus.
With the introduction of UAN it has become much easier. Your UAN remains the same throughout life irrespective of the number of jobs you change.
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