5-Point Guide To Build A Retirement Corpus

Capitalstars Investment Advisor

Calculate what retirement is: It is a must to know your “retirement phase” or the number of years to be spent in retirement for you to understand when to start planning, how many years to build your wealth for, and the corpus needed. If you want to retire early, the corpus needed will be significantly larger than if you plan to retire at the conventional age of 60 to 65. Miscalculating the retirement phase creates the risk of running out of corpus, which interestingly, as a study in the U.S. showed, is one of the biggest worries retirees face.

Remember the cost of delay: The best time to start saving for retirement is not when you are about to retire, but when you receive your first paycheck. The biggest free lunch in finance is the power of compounding, and any delay in starting just means you have to save harder to accumulate the same amount.

Make the nest egg comfortable: Retirement years are not the right time to be stressed; life before would have given you enough of that! It is important to accumulate enough to comfortably go through this phase, and it is always better to accumulate a tad more than less. How do you calculate what is an ideal retirement corpus? Think about what the right rate of inflation is, what your expected monthly expense is, and critically, what the right rate of return on your investments is. The calculators are many, but the inputs have to be right.

Remember expenses rise: The impact of inflation is hard to sink in. It adds to the cost of living each year, and by the time we hit retirement, we have to spend much, much more than we do today to maintain the current lifestyle. Additional costs also creep in with age, including health-related costs.

Don’t forget asset allocation: Asset allocation is often missed out while planning for retirement. What is the right mix for your portfolio? It depends on when you start. For those who have 20 years to retire, the equity should be a large part of your portfolio. The power of compounding will help you in wealth creation. For those in their 50s and approaching retirement, debt should be a bulk of the portfolio. At this age, risk-taking abilities are much lower. Asset allocation has to shift gradually from equity to debt, with increasing age and retirement proximity.

Don’t forget asset allocation: Asset allocation is often missed out while planning for retirement. What is the right mix for your portfolio? It depends on when you start. For those who have 20 years to retire, the equity should be a large part of your portfolio. The power of compounding will help you in wealth creation. For those in their 50s and approaching retirement, debt should be a bulk of the portfolio. At this age, risk-taking abilities are much lower. Asset allocation has to shift gradually from equity to debt, with increasing age and retirement proximity.

Your exposure to portfolio risk needs to reduce with age and hence you can use age-based asset allocation. For this, you can use the thumb rule i.e. your allocation to debt funds must be equal to your age.

Finally, don’t forget that retirement is a journey and this journey is incomplete without the support of a financial adviser. While retirement planning is not complex, it is nuanced, and involves a lot of variables. It requires constant monitoring, which a professional can handle well. Our survey showed that unfortunately, 77 percent of participants had not spoken to a financial adviser about retirement, and this is one thing that must change, and quickly.

When avoided, downsized or postponed, retirement creates stress, but when planned well, retirement truly fits the adage of “sunset years”. Board this train early, keep track of the stations passing by to ensure you are on the right track and enjoy the journey!

How to ensure your retirement savings outlive you

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.

Why women need to save more than men for a secure retirement

Capitalstars Investment Advisor

Being a woman puts you at a disadvantage when building your retirement corpus as you will need to save at least twice as much as a man.

If you are a 25-year-old working woman, retirement planning is probably the least of your priorities. Yet, it should be the topmost. Not just because it’s a crucial goal but also because you are a woman.

Yes, you read that right. Being a woman puts you at a disadvantage when it comes to building a corpus for retirement as you will need to save at least twice as much as a man. If you are still dismissive about the premise because you plan to get married and, of course, you and your spouse can muster a big enough corpus, think again.

There is a possibility that you may remain single, or the marriage may not work, or God forbid, you are widowed with children. According to the 2011 Census, there were nearly 74 million single women in India— unmarried, divorced, separated and widowed—and there was a 39% increase in single women between 2001 and 2011.

You need to be proactive about handling your finances, especially retirement planning. The three reasons you will need to save more than men are:

Women earn less

The gender pay gap is huge in India, with women earning 20% less than men, according to the Monster Salary Index (MSI). While men earn a median gross hourly salary of Rs 231, women earn only Rs 184.8. The pay gap also increases with experience: while men with up to two years’ experience earn 7.8% higher median wages, those with 11 or more years of experience get 25% more. Little wonder then that India ranked 108 on the World Economic Forum’s Global Gender Gap

Report 2017, while it was placed 136 out of 144 in terms of the workplace gender gap. What this means is that because women earn lesser, they will contribute lesser toward their savings. If a man earns Rs 40,000 a month and puts away 10% of this amount for retirement, he will save Rs 48,000 a year. On the other hand, a 20% less salary means, the woman will earn Rs 32,000 a month and will save only Rs 38,400 a year, resulting in a considerably depleted corpus.

Women work for fewer years

Not only do women earn less, but they also work for fewer years because they usually take time off for child care. On average, they spend about seven years away from work, which means they are not saving anything during this period. Besides, the truncated work experience means that when, and if, they rejoin the workforce, they will start at much lower salaries than their male peers. This is usually only about 30% more than their last drawn salaries. It will also mean that they qualify for low

Higher life expectancy

Add to these the fact that women tend to live longer, with a life expectancy of 69.9 years at birth, compared with 66.9 years for men. At 60, when most Indians retire, life expectancy for men is 77.2 and 78.6 for women. What this means is that the retirement corpus for women needs to be bigger than men so that it can last them longer. More importantly, the health-care costs see a sharp rise, resulting in a quick depletion of the corpus. So the financial fortication for women must be better.

What can women do to overcome these inequities and secure their retirement?

Save more

Women need to save at least twice as much as men. “Instead of 10% of their monthly incomes, they should save 20-25% for retirement,” says Financial Planner Pankaaj Maalde. If it seems hard to do so in the initial years because of the temptation to spend, lock the investments through ECS mandate to your bank account. Another option is to save more in the Provident Fund by opting for VPF (Voluntary Provident Fund) contribution with your employer in addition to the EPF and you can enjoy its tax-free status: tax deduction under Section 80C, no tax on interest or on the maturity proceeds.

Invest better

The best trick to save more, of course, is to invest smart. “Get your asset allocation right. With a long time horizon, investing in debt is more dangerous than saving less,” says Maalde. So, retain a small portion in debt, but invest a larger percentage in equity instruments like equity or balanced mutual funds to ensure you get high returns over the long term. Also make sure that you invest in line with your goal. For this, it is important that you calculate the retirement corpus correctly, taking into account the eroding effect of inflation and the impact of taxation on your investments.

Secure health insurance

“One of the best investment decisions you can make to protect your retirement corpus from depleting is to buy health insurance,” says Maalde. Given the high medical inflation of 12-15% and higher incidence of lifestyle diseases, especially in old age, it makes sense to purchase a health cover because it will stop you from dipping into your retirement corpus during a medical emergency.

Bargain better at workplace

This is another skill that will stand you in good stead. Do not hesitate to bargain for a good increment at the workplace and, more importantly, for a higher salary when you change jobs. Since it’s very likely that you are being paid lesser than your male counterparts, it will not hurt to stand up for your due remuneration. The more you earn, the higher the contribution to the retirement corpus, and it may also reflect in your retirement benefits later.

Work longer

It is a good idea for women to continue working in retirement because there is a high likelihood that they will live for another 15-20 years. Start planning for the post-retirement career during your working years so that the transition is smooth and the corpus can last longer.

5 Ways a New Law Could Affect Your Retirement Savings Options

Capitalstars Investment Advisor

The Setting Every Community Up for Retirement Enhancement (SECURE) Act has been folded into the bipartisan appropriation package for the fiscal year 2020, which President Trump is expected to sign to avert a shutdown of the federal government.

Here's how some of the changes might affect you.

Allow you to contribute to your retirement plan longer. People are living and working longer, so the bill will allow people older than 701/2 to contribute to traditional individual retirement accounts (IRAs). The bill also pushes back the age at which you must take distributions to 72.

Help you secure guaranteed retirement income. Employers will be able to offer annuities in their retirement plans, which means guaranteed monthly payments for you and your spouse. If you change jobs, you'll be able to take your annuity to your new employer's plan without paying fees and charges.

Make it easier for companies to offer retirement plans. Small businesses that don't offer retirement plans will be able to join other businesses to create multiple employer plans or MEPs. These plans should be cheaper for small companies because they can share administrative costs. The bill also will give a new tax credit of up to $500 per year to employers to defray startup costs for new 401(k) plans and SIMPLE IRA plans that include automatic enrollment.

Make part-time workers eligible for employer retirement plans. Currently, you need to be a full-time employee with 1,000 hours of work per year to join an employer retirement plan. The new bill would allow employees who have worked 500 hours per year for three consecutive years to join the company retirement plan. This provision starts Jan. 1, 2020.

Significantly reduce “stretch” IRAs. Under current law, if you name your children as the beneficiaries of your retirement plan, they can spread out payments from the plan over their lifetime – hence the “stretch” nickname. The bill would put a 10-year limit on the time a beneficiary has to take withdrawals from an inherited IRA.

Spouses, people with disabilities or who are chronically ill, and minor children are exempted from the rule. Otherwise, those who fail to withdraw funds within the 10-year window would face a 50 percent tax penalty on assets remaining in the account. This provision of the new law will take effect Dec. 31, 2019. That means you should review the beneficiaries of your retirement account before the end of the year.

In a letter to the U.S. House of Representatives this week, AARP praised the inclusion of the SECURE Act in the year-end spending deal. “The SECURE Act of 2019 will make it easier for the 27 million part-time workers in the United States to save for retirement and for smaller employers to offer a retirement plan to their workers,” said Nancy LeaMond, AARP executive vice president and chief advocacy and engagement officer.

How to calculate the retirement corpus you will need using MS Excel

Capitalstars Investment Advisor

Calculating the present value of an amount gets complicated if the investment generates a series of payments over a period of time.

An ideal retirement corpus should take care of all your postretirement expenses. But can you calculate the amount required? It involves taking into account life expectancy, interest rates, inflation and the time value of money and can be a bit tricky. Here we explain how to use MS Excel to calculate the amount easily. But first, let’s understand some basics.

The concept of the time value of money states that the worth of a rupee received today is more than a rupee received at a later date because of its earning potential. The concept of time value has two elements: Compounding and discounting. Compounding helps to estimate future values whereas discounting helps to estimate present values. For calculating your retirement corpus, it is the present value that matters.

Let us look at an example: An investment product promises Rs 8 lakh in 10 years if you invest Rs 4 lakh today; given interest/FD rates of 8% per annum, will this investment product be profitable? You will have to find out the present value of Rs 8 lakh at an 8% discount rate to arrive at the right answer. Present value is calculated by dividing Rs 8 lakh by (1+r) ^n, where ‘r’ is the discount rate (or interest rate) and ‘n’ is the tenure of investment. be Rs 3.7 lakh. Given that the present value of the amount that the product promises to pay (fund inflow) is less than the amount invested (fund outflow), the product is not profitable. In other words, the net present value of the investment product is negative. The net present value is the difference between the present value of cash inflows and the present value of cash outflows.

If the same Rs 4 lakh is invested in an FD for 10 years, offering 8% annual interest, the maturity proceeds work out to be Rs 8.63 lakh (assuming no tax)— Rs 63,000 higher than the aforementioned investment product.

Calculating the present value of an amount gets complicated if the investment generates a series of payments over a period of time. To calculate the current worth of such an investment, the present value of each payment in the entire series of payments needs to be derived. Technically, one needs to find out the present value of an annuity.

Estimating one’s retirement corpus involves calculating the present value of an annuity. This is because one expects to generate a stream of payments—monthly, quarterly or annually—from one’s retirement corpus for a given number of years at a certain rate. Such a stream of payments seeks to take care of one’s post-retirement expenses—based on one’s current expenses and assumed inflation rate.

A 38-year-old with a current annual expense of Rs 6 lakh can calculate his annual expenditure requirements when she retires at the age of 60, based on an assumed annual inflation rate over 22 years (the period after which she will retire). For instance, at 5% assumed inflation she will need Rs 17.5 lakh—6 lakh x (1+5%)^22. The ideal retirement corpus must generate a stream of Rs 17.5 lakh annually for 25 years after retirement, assuming a life expectancy of 85 years. Such a corpus can be arrived at by adding the present value of each stream of Rs 17.5 lakh discounted at an appropriate rate. The appropriate rate is generally the average long-term (10-year) yield on government securities. Additionally, post-retirement inflation also needs to be taken into account.

Although the methodology appears complex, MS Excel’s NPV function can help you do the calculations easily. NPV requires you to input the discount (or interest) rate and the series of expected inflows or estimated expenses.

At a 7% discount rate and assuming no inflation, the present value of the annuity works out to be Rs 2.04 crore. So, in our example, the working professional will have to accumulate Rs 2.04 crore for his retirement. However, if we assume postretirement inflation of 4.5% per annum, he will have to accumulate Rs 3.12 crore.

One can play with the numbers to see how changes in inflation, discount or interest rates changes the desired corpus.

How much do you need to save for retirement at different life stages?

Capitalstars Investment Advisor

One rule applies to everyone: Once you start with a plan, stick to it. Abandoning it midway will set your retirement planning back by several years.

When a US-based financial portal recently suggested that one should have saved twice his annual salary by the age of 35, it was mocked a lot on social media.

“I think you meant to say, by 35 you should have debt twice your annual salary.”

The sarcastic responses to the article evoked much mirth, but missed the key point: If the figure seems unattainable, the problem could lie more with one’s savings and spending patterns rather than the target itself. ET Wealth reached out to financial planners to understand how much Indians need to save at various ages to ensure they retire comfortably.

First, a caveat: the exercise to determine final retirement corpus —and the ideal savings at various life-stages—will have to be tailor-made for each individual, taking various expenses, dependents’ needs, goals, and other requirements into account. “Even post-retirement goals will vary— some may decide to lead a frugal life while others will have international travel plans, for instance. So while thumb rules can be seen as guideposts, they cannot be treated as gospel,” says certified financial planner Gaurav Mashruwala.

It will also vary as per the individual’s financial discipline. “For instance, a 25-year old who allocates 5% of her income towards retirement since her first job and continues to do so will not have to hike her savings as a percentage of income for retirement significantly later,” says financial planner Suresh Sadagopan, Founder, Ladder7 Financial Advisories. This is because a decent corpus would have been built over time with the power of compounding kicking in. “But another person who has not made much effort to save for retirement will need to start saving aggressively in the forties,” he adds.

The young and restless

The pleasure Twitterati derived out of ridiculing the retirement savings piece seems to reinforce the unflattering perception about millennials—those born after the year 1980 and broadly, youngsters—as a generation bred on a diet of consumerism with little appetite for savings. Given that many in this generation maintain an expensive lifestyle dotted with gadgets, eating out, rent, education loan EMIs and sundry living expenses, retirement planning is generally not high on their agenda. Even for the prudent ones, retirement, understandably, seems years away and imminent goals like buying a house or a car or saving for a lavish wedding are likely to command a larger share of savings in the initial working years. So, realistically speaking, how much should the younger lot allocate towards their retirement goals? “You should start with saving a particular portion of your salary rather than targeting a figure of say 1x or 2x of your salary at a particular age,” says Sadagopan. “A good ballpark figure for a 25-yer old individual 5%. They should look to save at least 5% of their income specifically for retirement.” The period for which your savings stay invested is more important than the actual amount saved. “The key is to start early, even if it means saving and investing small amounts,” says Amar Pandit, Founder, HappynessFactory.in. Even small amounts can add huge value to your final retirement corpus thanks to the power of compounding.

The middle years

This is the age when responsibilities start piling up, putting tremendous pressure on finances. Those between 35-45 years of age may be relatively better at withstanding peer pressure to maintain an expensive lifestyle, but there are other needs and goals that make demands on the income, pushing retirement down the priority list. “You can start with saving 20% of the income, and gradually increase savings to 40-50%, based on your overall financial situation, "says Pandit. Sadagopan feels that those around 35 years of age you should look to allocate at least 10% of their income towards retirement. “From 5% at the age of 25, the savings rate should go up to 10% by the time a person turns 35. You should maintain this retirement savings level till the age of 50,” he says. This does not include the mandatory contribution of the employee and employer to the provident fund.

Retirement on radar

Closer to retirement, it is reasonable to expect responsibilities related to children’s education to be out of the way, leaving more for retirement savings. However, again, this would vary from person to person. “Many individuals who entered parenthood in their late 30s or early 40s are likely to shoulder children’s education responsibilities closer to retirement or even after that,” says Sadagopan. He recommends a retirement savings rate of at least 15% once you cross 50 years. This rate should be adhered to until retirement. “This should ensure a decent retirement corpus to see a couple off in reasonable comfort in their retirement years,” he adds.

6 Types of Retirement Plans You Should Know About

Capitalstars Investment Advisor

The various retirement plans available are easier to understand than you might think, although each is subject to its own limitations. Some of these limitations depend on your modified adjusted gross income, while others involve a cap on the amount of money you can contribute yearly.

1. 401(k) Plans

A 401(k) plan is a workplace retirement account that's offered as an employee benefit. The account allows you to contribute a portion of your pre-tax paycheck to tax-deferred investments. This reduces the amount of income you must pay taxes on in that year. For example, you'd be taxed on $70,000 if you earned $75,000 and contributed $5,000 to your 401(k).

Investment gains grow tax deferred until you withdraw the money in retirement. If you withdraw funds from the plan before age 59½, however, you could pay a 10% penalty, and the withdrawal would be subject to federal and state income taxes. Some plans offer 401(k) loans, however, if you find yourself in a cash emergency. 

2. Individual Retirement Accounts (IRAs)

An IRA is a tax-favored investment account. You can use the account to invest in stocks, bonds, mutual funds, ETFs, and other types of investments after you place money into it, and you make the investment decisions yourself unless you want to hire someone else to do so for you. You might consider investing in an IRA if your employer doesn't offer a retirement plan or if you've maxed out your 401(k) contributions for the year.

You contribute up to $6,000 in 2019. This increases to $7,000 if you're age 50 or older. This limit is an increase from $5,500 in 2018. You'll pay no taxes annually on investment gains, which helps them to grow more quickly.

3. Roth IRAs

Unlike a traditional IRA, Roth IRA contributions are made with after-tax dollars. But any money generated within the Roth is never taxed again.

You can take withdraw contributions you've made to a Roth IRA before retirement age without penalty, provided five years have passed since your first contribution. You're not required to begin taking withdrawals at age 70½ as you are with traditional IRAs, 401(k)s, and other retirements savings plans. 

Putting money in a Roth is a great place to invest extra cash if you're just starting out and you think your income will grow. You can even contribute to both an IRA and a Roth IRA, but your total contributions to both plans can't exceed the $6,000 contribution limit for the year. 

4. Roth 401(k)

A Roth 401(k) combines features of the Roth IRA and a 401(k). It's a type of account offered through employers, and it's relatively new. As with a Roth IRA, contributions come from your after-tax paycheck rather than your pre-tax salary. Contributions and earnings in a Roth are never taxed again if you remain in the plan for at least five years. 

But there's a catch with this type of plan as well. Contribution limits become stricter if your modified adjusted gross income (MAGI) reaches a certain point, and contributions are prohibited entirely if you earn too much. Phaseouts begin at MAGIs of $122,000 for single filers in 2019, and you can't contribute if your MAGI tops $137,000. These limits for married taxpayers filing joint returns increase to $193.000 and $203,000. 

5. SIMPLE IRA

The Savings Incentive Match for Employees (SIMPLE) IRA is a retirement plan that small businesses with up to 100 employees can offer. It works very much like a 401(k). Contributions are made with pretax paycheck withdrawals, and the money grows tax deferred until retirement.

Distributions taken within two years of opening the plan and before age 59½ can result in a hefty penalty, however—25%. You can't borrow from a SIMPLE IRA, either, the way you can from a 401(k). 

6. SEP IRA

A Simplified Employee Pension (SEP) IRA allows you to contribute a portion of your income to your own retirement account if you're self-employed and have no employees. You can fully deduct these contributions from your taxable income.

The maximum annual contribution limits are higher than most other tax-favored retirement accounts: $56,000 or 25% of income— whichever is less—as of 2019.