7 Golden rules of retirement

Experts contend that retirement planning should start from the day you start earning. Sound advice indeed, but one that is seldom followed. So ET Wealth decided to bring to you seven rules of retirement planning that have been advocated by experts for decades. Follow them and you can be sure to retire in comfort

1. Save 10% of your income for retirement

The first rule of retirement planning is also the easiest to follow. If you have a regular job, then 12% of your basic salary and an equal contribution by your employer that flows into your Provident Fund account is a good way to build a nest egg. The best thing about this option is that you cannot avoid it. EPF rules require all employees to contribute 12% of their basic income to retiral savings, which include the Employee Provident Fund and the Family Pension Fund. It is a forced saving that becomes the default retirement plan for many individuals.

The amount of contribution to the EPF does not matter. Given the power of compounding, even a small contribution can bloat into a big sum over the long term. Don't underestimate the significance of the savings in the first few years. Assuming that a 25-year-old investor puts away a fixed amount every month, his savings in the first five years will account for 44% of his total corpus when he is 60 years old. The later you start, the more you will need to save. If you have started late, say in your 40s or 50s, you will have to invest up to 20-25 % of your income if you want a comfortable retirement.

The 10% rule is crucial for self-employed professionals and others who are not covered by the EPF umbrella. They can opt for mutual funds, choosing the ones that suit their risk appetite and age profile. However, you need to have the discipline to put away the given sum on a regular basis.

SMART TIP:

Start an SIP in a mutual fund and automate the process by giving an ECS mandate to your bank. In this way, your retirement planning will stay on track.

2. Increase investment as your income grows

According to recruitment firm ABC Consultants , India Inc hiked salaries by 12-15 % in 2011. By how much did your income go up? More importantly , did you step up the quantum of your investments accordingly? Not many people do that. Sure, inflation has been on the rise and most of this year's increment would have been nullified by the increase in the cost of living. But even when there is a marked increase in the investible surplus, people don't match their investments with the increase in income.

This is understandable since it is human nature to put things off, especially ones that require sacrifices in return for future rewards. This can severely undermine your retirement planning. If a 30-year-old with a monthly salary of 50,000 starts saving 10% ( 5,000) for his retirement every month in an option that earn 9% per year, he would have accumulated 92 lakh by the time he is 60. Now, assuming his salary increases by 10% every year and he raises his investment accordingly, he would have a gargantuan retirement corpus of 2.76 crore. If he does waits five years to raise it by 50%, he will have 1.93 crore.

It is important to maintain the retirement savings rate at 10% so that your nest egg doesn't fall short of your requirements. The icing on the cake can be periodic boosters whenever you get a windfall, such as a tax refund or a lump-sum payment in the form of, say, an annual bonus. The trick is to commit yourself to save more in the future.

SMART TIP:

Whenever you get a raise, allocate half of it to savings. You might not notice the change since you will be enjoying the other half of the raise.

3. Don't dip into corpus before you retire

This might sound weird, but every time you change jobs, your retirement planning is at a grave risk. This is because you have the option to withdraw your PF balance at that time or transfer it to the account with the new employer. Besides, there is the option to withdraw your PF amount if you need the money for specific purposes, including your child's marriage, buying or building a house, or in medical emergencies . Dipping into the corpus before you retire prevents your money to gain from the power of compounding. Don't underestimate what this can do to your retirement savings over the long term. A person with a basic salary of 25,000 a month at the age of 25 can accumulate 1.65 crore in the PF over a period of 35 years. This is based on the assumption that his income will rise by 10% every year.

Yet, many people are unable to reach the 1 crore milestone in their PF accounts. Although the paperwork is minimal, a lot of people prefer to withdraw their PF money when they change jobs or for other purposes. This, despite the fact that the government discourages you from withdrawing the money. The withdrawals from the EPF within five years of joining are taxable.
The sudden flush of liquidity can trigger a spending spree and ill-planned decisions that can cripple your financial planning. Often, the money goes into discretionary spending, which means your retirement planning is back at square one. A late start means a smaller corpus even if you start investing more.

SMART TIP:

Instead of withdrawing your EPF balance when you change jobs, transfer it to the new account by filling 'Form 13' and submitting it to the new employer. This should be at the top in your list of priorities at the new workplace.

4. Withdraw 5% a year initially, then step up

One of the biggest challenges for tomorrow's retirees is to ensure that they don't outlive their savings. This is a distinct possibility because of two major factors: rising cost of living and an increase in life expectancy. High inflation, in fact, is enemy no. 1 for the retired investor. Sure, the inflation rate will not remain as high as it is right now. However, over 20 years, even a nominal inflation of 6% will reduce the value of 1 crore to 29 lakh. Besides, Indians are living longer. Life expectancy rose from 61.3 years in 2000 to 66.46 years in 2010. By 2020, the average Indian can expect to live till 72 years. In urban areas, where people have better access to healthcare, and in higher income groups, the life expectancy could extend beyond 80 years.

To ensure that you don't run out of money in your old age, you must have a drawdown plan in place. The thumb rule is not to withdraw more than 5% of the corpus in the first five years of retirement. This can be progressively increased to 10% by the time the retiree is 70. This essentially means that the retiree should draw down less than the appreciation in the initial decade, but in the next 10 years, he can withdraw more than the accretion to the corpus. At 80, even a 20% annual drawdown rate would be considered safe.
The problem arises because most Indians are not comfortable with the idea of drawing down from their corpus. There is an overarching desire to leave something behind for their heirs and dependents. Given the inability of a corpus to beat inflation in the long run, the retirees should be prepared for a depletion of their corpus.

SMART TIP:

You can safely draw down half the inflation-adjusted appreciation every year. If the portfolio has earned 12%, you can easily withdraw 6%.

5. 100 - age = Your allocation to stocks

An investment portfolio's performance is determined more by its asset allocation than by the returns from individual investments or market timing. How much you have when you attend your last day at work will depend on how you divided your retirement savings between stocks, fixed income and other asset classes. Experts recommend that you should have an equity exposure of 100 minus your age. So, at 30, you should have about 70% of your portfolio in equities. At 55, the exposure to this volatile asset class should have been pared down to 45%. After you retire, your exposure to stocks should not be more than 25-30 % of your portfolio.

Even within equities, the type of stocks (or equity funds) in your portfolio should vary with age.
This is not a hard and fast rule and should also take into account the financial situation of the individual. It assumes that all people at a certain age will have the same risk appetite . This is not true. A 45-year-old person with a good income and few dependants will be able to take on more risk than someone who is 30 but has a low and unsteady income.

SMART TIP:

Invest in asset allocation funds that redistribute the corpus depending on the age of the investor. As he grows older, the exposure to equity is progressively reduced.

6. Borrow for education, save for retirement

Indian parents love to save for their children. Whether it is for their education or marriage, or even to provide them with a comfortable life, children are the biggest motivators of savings in the country. But before you pour money into a child plan, make sure your retirement savings target has been met. In an effort to fulfil the needs of the child, Indian parents sometimes sacrifice more than they should. Some even dip into their retirement funds to pay for the child's education. This is risky because your retirement is going to be very different from that of the previous generations . It will be entirely funded by you and won't have the cushion of defined benefits.

This doesn't mean you should compromise on your child's education. It can still be done through an education loan. In the past two decades, we have seen how the MRP of a product has been replaced by its EMI in our everyday lives. Home, travel, car, education, gold, consumer durables-you can get a loan for almost anything and everything. What's more, the government encourages you to take loans by offering tax breaks on the interest paid on housing and education loans. No bank, however , is going to lend you for your retirement. Sure, there are reverse mortgage schemes, but those require your house to be kept as collateral .

Under Section 80E, income tax deduction is available only if the education loan has been taken for yourself, your spouse or children . Also, the loan should be from a bank or a financial institution notified for the purpose . No tax deduction is available if the loan has been taken from a private source.

SMART TIP:

An education loan helps inculcate financial discipline in the child. If he is responsible for the repayment, he gets into the saving habit early in life.

7. Save 20 times your annual expenses

This rule is different from others because it is based on how much you spend, not on how much your investments earn. Knowing your post-retirement expenses is crucial to retirement planning. Some expenses, such as those on clothing and entertainment, come down. Others, such as transportation, medicine and insurance, go up. Add up all the expenses you are likely to incur after retirement to know how much you will need per month. Then, multiply this amount by 240 to know how much should be your retirement corpus.

However, this calculation is based on a number of assumptions. Firstly, you should not have outstanding loans when you hang up your boots. Secondly, you and your spouse should have sufficient health insurance. A survey conducted by HSBC earlier this year shows that unforeseen expenses and medical costs are the biggest concerns for Indians during retirement.

The good news is that Indians are increasingly becoming aware of the need to plan their retirement. In a 2010 survey by Bharti Axa Life Insurance in eight top cities in the country, 74% of the respondents said that they knew how much they would need after retirement . Three years earlier, only 53% had a fix on how much they would require in their sunset years.

SMART TIP:

Buy a health insurance cover that continues till you are 70-75 years old. It is difficult to buy one afresh when you are older and not so healthy.

Source: http://timesofindia.indiatimes.com/business/india-business/7-Golden-rules-of-retirement/articleshow/10811264.cms

For old age, pick mutual funds over retirement schemes

It is imperative that one accounts for inflation while building a retirement corpus. And, there are various instruments — slightly riskier than debt — that need to be accomodated in it, to earn good returns.

There are various mutual fund schemes to choose from, such as equity-diversified funds, mid- or small-cap funds, debt funds and so on. Alternatively, you can pick retirement-specific funds that some fund houses offer. At the moment, only UTI Mutual Fund, Franklin Templeton and Tata Mutual Fund offer retirement schemes.

However, as far as returns go, the retirement-specific schemes have offered lower returns than pure-equity schemes. According to data by Value Research, over a 10-year period, the Templeton India pension scheme has given returns of 13.62 per cent annually. The category average returns of equity-diversified funds, on the other hand, have been 20.84 per cent. Multi-cap equity funds have returned 28.19 per cent.

Returns from debt-fund categories such as income and hybrid debt-oriented funds have gone up between six and nine per cent. One should, however, have a judicious mix of both equity and debt in a portfolio and keep rebalancing it with advancing age.

Suresh Sadagopan, principal financial planner at Ladder7 FA, says retirement funds have given lesser returns, as they predominantly invest in debt right from the start. "It is important to have a good mix of both equity and debt in your portfolio. With the right combination, one can beat inflation, which is necessary when building a retirement corpus." With mutual fund schemes, one has the flexibility to alter the ratio of debt and equity according to need, unlike in a retirement fund where it is done by the fund house. Financial advisors say an exposure of between 10 and 20 per cent in equity is a necessity, even when planning for retirement.

On the cost front, too, retirement funds are more expensive. While mutual funds charge an annual management fee, retirement schemes charge an exit load, which at UTI is three per cent (withdrawal before the age of 58). Franklin Templeton charges five per cent on withdrawal before one year, three per cent after one year and one per cent after three years. Tata Mutual Fund's Retirement Savings Fund wants to discourage a mid-way exit and has imposed an exit load of five per cent in the first year. Thereafter, it climbs down and becomes one per cent in the fifth.

On the tax front, if one invests in a mutual fund scheme, the accumulated amount is tax-free because of zero long-term capital gains tax on equities. Experts advise investing in an equity-diversified fund via a systematic investment plan. They ask investors to shift money to a monthly income plan or a debt fund as they approach retirement.

On the other hand, retirement funds get taxed like debt funds (10 per cent with indexation benefits and 20 per cent without). By the time one starts to withdraw after retiring, the investment would be mainly in debt instruments.

Rajesh Saluja, CEO and managing partner at ASK Wealth Advisors, says a good mix of equity and debt is enough to build the mutual fund part of one’s retirement corpus than going for a retirement fund. He says the latter is nothing but a marketing gimmick.

Source: http://www.business-standard.com/india/news/for-old-age-pick-mutual-funds-over-retirement-schemes/455594/

Can other asset classes outperform the equity market over the long haul?

The volatility in equities, both local and global, has prompted many investors to exit equities and shift to other asset classes such as gold and commodities. But is this a desirable shift? Can other asset classes outperform the equity market over the long haul?

In this edition of the ET Investor's Guide Quarterly Mutual Fund Tracker, our panel of experts provides a perspective on the state of the market and their views on other asset classes, in interviews with ET.

QUESTIONS
Q1: Where is the Indian equity market headed given the current global uncertainties?

Q2: How will equity investments fare as an asset class?

Q3: How will the global equity market perform?

Q4: Will gold as an asset class outperform?

Q5: Will real estate investments pay off?

Q6: Is commodity investment a sensible option?

Q7: How much should an investor set aside for personal investment?

ANSWERS

SANDESH KIRKIRE, Chief Executive Officer, Kotak Mahindra Asset Management

1. We have seen these similar market levels in 2007 last quarter. But if you see the valuations, the market is much cheaper today. The domestic consumption part of the economy is doing well. What, however, is not doing well is domestic investment, especially in the infrastructure space.

And a lot of reasons can be blamed for it - policy paralysis, high interest rates resulting in corporate India going slow with projects etc. But from a retail investors' perspective, these are the times one should be looking at for investing for a long period.

2. Buying equity means buying ownership of the company and for an owner shortterm hiccups should not be a great botheration. If investors look at the performance of systematic investing in equity MFs over 8-10 year period, huge wealth has been created. Investors should look at that kind of a time frame. If you do not have that kind of an investment horizon, you should not be looking at equity.

3. One needs to select a right market to invest. Developed markets struggle to outperform the emerging ones. India is one of the fastest-growing economies. So I guess majority of investment should be centred here. But some exposure can be taken in the international markets.

4. Gold as a commodity has no use other than hedging. Unlike other commodities, it has no commercial usage. One cannot put a lot of money in gold but some investment is desired as gold is a hedge to global financial markets.

5. Real Estate is not accessable to a retail investor. You have real estate funds that are not retail in nature. As far as physical purchase is concerned, it is difficult to transact in property. I am not sure if real estate is a viable investment option for a retail investor. If one is buying for capital appreciation, firstly it is difficult to liquidate and secondly this asset class may not see growth for a long time.

6. Commodities are purely leverage. When one is buying commodities, one is buying future. The impact on correction is massive. It's like borrowing money to play in the market. I don't think a retail investor should even think about it. Commodity prices are influenced by something happening in some part of the globe. To illustrate, oil demand has gone up 3% from October 2008 till date but oil prices are up 300%. This financialisation of commodities market is harmful.

7. About 50-60% of my portfolio is allocated to Indian equities while 35-40% is in fixed income products that include bank deposits. Investment in gold would be around 5%.

SHANKARAN NAREN, Chief Investment Officer, ICICI Prudential Asset Management

1. The market will be volatile due to the events in Europe. As far as the domestic economy is concerned, the monsoon has been the single biggest positive phenomenon, which has helped agricultural production. But high crude oil prices are clearly a negative for the economy. The direct tax collections have also been disappointing. As far as inflation is concerned, our guess is that the worst is over and the rates should move southwards by March 12.

2. Valuations are pretty attractive in the domestic market today. This is a good opportunity for investor to increase their allocation to equity systematically though SIPs and STPs. Overall investment trend in India shows that Indian investors are grossly under invested in equities vis-a-vis other asset classes.

3. In a volatile scenario, the more number of asset classes one has diversified the finances into, the better. Certainly, one should allocate investment in both domestic as well as international markets. This will give you a different pay off.

4. Gold is an asset class, which does well when global economies get into trouble and poorly when globally economies are fairing better. Although it is not a very new asset class for Indians, a view on this asset, for investment allocation is not very easy.

5. Real estate as an asset class is for the affluent. The prices are off the roof not only in the metros but also in the other smaller cities making this asset out of bound for most investors. My guess is that retail investors should look at equities as an investment avenue instead.

Having not delivered in the past four years, valuations in the equity market have become quite attractive. Alternatively, they can also look at fixed income instruments, at least till the time the interest rates begin to cool off.

6. It is difficult to comment on commodities as a pure asset class though we do invest in stocks of companies related to commodities.

7. Equity, both domestic and international, form the core of my investment portfolio followed by fixed income products. I do not invest in real estate and gold. Moreover, being unsure of commodities as an asset class, I have kept myself far away from it.

ASHU SUYASH, Country Head & Managing Director, India, Fidelity Worldwide Investments

1. The markets will be range bound for a while. But what is important here is that we do not anticipate any 2008 like downfall and this gives a lot of opportunities to the investors to invest provided they can stomach the volatility.

2. Clearly you cannot expect 60-70% kind of returns that you had after the recovery, but if you had to look at beating the inflation, which itself is 9%, no guaranteed fixed return product adjusted for tax is going to give a positive upside. Taking that into account, the mindset needs to take on board certain risk. And if one is ready to take on board this risk and volatility, equities are still appealing.

3. You cannot put everything in India nor all in the international market. Last year India was among one of the best performing markets, today it is among one of the worst performers. FIIs are optimistic on emerging markets and not only India. India's economic growth rates are very high today but the base is small compared to the US. Developed economies with large base and slow growth rate are not as volatile as we are. International equities can thus be considered for diversification.

4. Today everybody is willing to invest in gold without giving a thought that how soon are we going to see a similar rise. Gold deserves some allocation but one cannot go overboard investing in gold. While gold has outperformed, it has not outperformed equities over a longer haul. Investment in gold is a flight to safety and not to generate wealth.

5. Real estate for me is the necessity to own a house. Beyond that, I think there is nothing like mark to market in real estate because it is one of the most opaque markets and very difficult to liquidate in times of need. So, the big gains that we see on property will be of no use if one really needs the money but is unable to sell the property.

Unfortunately there are not enough liquid financial asset classes linked to real estate. So while real estate does deserve merit in the overall net worth of the investor, but beyond that I would personally worry if I had to put my retirement money in a house.

6. I doubt if retail investors in our country really understands commodity as an asset class. One should not invest in something one is unsure about and where you neither have historical data nor forecasts.

7. I am predominantly a mutual fund person. The largest allocation of my portfolio goes to equity mutual funds, including some offshore products available in India. For fixed income, I have a roughly even allocation to cash funds and bank deposits and a small percentage allocated to gold.

 NAVNEET MUNOT, Chief Investment Officer, SBI Asset Management

1. The equity market is expected to remain volatile on account of the events in the euro zone as well as the macro economic headwinds in the domestic market. However, while markets will continue to be range-bound, the valuations currently are fairly attractive for longterm investment point of view.

2. Given the kind of volatility, overall allocation to equities has gone down over the past couple of months in favour of other asset classes like gold, real estate and fixed income. Investors, however, should use the current volatility to their advantage and build their equity portfolios, as valuations are extremely attractive.

3. For retail investors, given the longterm opportunity in India, the focus should be domestic market. However, high net worth individuals, who have a larger portfolio and need to diversify to different geographies can invest 5-10% of their portfolio in international equity market.

4. It would be foolish to look at Gold as an investment option for absolute returns now since it has seen a lot of run-up already. However, one may use it as a hedge in their portfolio against any major turmoil in the capital market. So in my view, an allocation of 4-8% should more than suffice.

5. It's difficult to generalise on investment in real estate. It depends on many parameters like the location of the property. Moreover, liquidity is always an issue with this asset class. Notwithstanding the fact that real estate has witnessed a lot of capital appreciation over the past few years, it is nevertheless a difficult and inconvenient investment option.

6. Commodity as an asset class is a good investment. However, being cyclical in nature, it makes sense for a retail investor to invest only if he or she closely tracks its movement. Another issue with investing in commodities is the absence of easy accessibility. Except for Gold ETFs, we do not have good vehicles to facilitate transaction in commodities.

7. Nearly 50% of my savings go to equities and a major chunk of the rest to fixed-income products. Gold is only for hedging and I allocate roughly 2-4% to this asset class.

Source: http://economictimes.indiatimes.com/articleshow/10706341.cms?prtpage=1

Decoding savings rate deregulation and how it impacts liquid funds

The Reserve Bank of India (RBI) in its second quarter monetary policy review deregulated savings bank rates with immediate effect.

A savings deposit is a hybrid product which combines the features of a current account and a term deposit account. A current account is mainly maintained by business houses whereas a savings account is used mostly by individuals.

The amount maintained under a current account normally does not provide any rate of interest whereas interest is paid for asavings account. The overall interest rate scenario has changed drastically in the last two decades, but the interest rate on saving accounts has been changed only thrice since 1978.Let’s take a look at the pros and cons of interest rates deregulation.
 

Advantages

To increase the share of savings account in total deposit: The savings rate was fixed at 3.50% from March 2003 to May 2011.

However, during the period, the RBI changed both repo and reverse repo rates many times but the same was not reflected in the interest rates that the normal household gets. There was a huge gap between savings and term depositrates and, hence, the ratio of savings deposit in total deposit fluctuated, mainly in rural areas. The deregulation would make such accounts more attractive in rural areas.

RBI policies would become more effective: As savings accounts constitute around 22% of the total bank deposits, it provides a source of low-cost fund to banks. Even when the reporate was hovering around 8.25%, the savings rate was fixed at 4% before deregulation.

After deregulation, it is expected that savings rate would move in tandem with the RBI monetary policy, thus, making the policy more effective.

Competition: Most banks would want to maximise their CASA ratio as it provides funds at low cost. Before deregulation there was hardly any competition in this segment. But after deregulation, it is expected that banks would try to lure customers by offering higher interest rates along with other innovations and flexibility to get as many accounts as possible.

Disadvantages
It might lead to asset-liability mismatches: As all banks offered similar rate of interest before deregulation, there was no incentive for customer to shift their savings from one bank to another and, hence, banks used such deposit to finance long-term loans. But, when the banks are free to set their own interest rates, it can wisely be assumed that banks with lower CASA ratio would offer attractive rate of interest to consumers, thus, leading to asset-liability mismatches.

Could impact small households: When interest rates are deregulated, it could be on the downside as well. Banks would not be in a position to compensate savers properly if there is enough liquidity in the system. This would impact small savers and pensioners who depend only on savings rate interest for their livelihood.

Unhealthy competition and systematic risk: Saving deposits offers low cost of funds and, hence, are very attractive for banks. To lure customers, each bank would try to offer higher rate of interest, thus, impacting their net interest margin. It would result in higher cost of funds for the bank which would ultimately be passed on to the borrower, leading to higher cost of borrowing. Deregulation of interest rates has its own pros and cons and it would be interesting to see what strategy banks adopt. It is expected that in a higher interest rate scenario they would be forced to provide much higher returns.

Impact on liquid funds
Liquid funds are mutual funds that primarily invest in debt securities and offer higher post-tax returns as compared to savings deposits. They normally invest in commercial papers, certificate of deposits and treasury bills of maturities less than 91 days. Their mandate is to optimise returns while preserving capital.

But with deregulation of interest rates in savings accounts, some investors might move their funds towards these as it offers higher liquidity and safety of the principal amount. The overall corpus might be impacted by reduced difference between yields of both options.

However, liquid funds yield better returns if we take tax rate into account. It also provides a dividend option where only dividend distribution taxis deducted by fund houses before distribution. With deregulation, this category of mutual fund will definitely offer more innovation. Thus, one must spread his savings across liquid funds and savings account to get the benefit of both
 

While savings deposits are easier to access and offer some degree ofprotection, higher yield combined with liquidity and taxation benefits make liquid funds attractive.

Source: http://www.dnaindia.com/money/report_decoding-savings-rate-deregulation-and-how-it-impacts-liquid-funds_1606196