A reader asks, ” At 45, notional gains from debt mutual funds (Liquid, ST, Gilt, Arbitrage) + divided (Usual suspects HDFC, ITC, HUL etc.) per year is about 18 lakhs. With a planned retirement expense of 9 lakhs pa, that is twice the pa requirement. Corpus for other goals is set side separately”.
“I know debt and dividend return can fluctuate, but it will be less volatile than equity. At what annual-expense-multiple can it be considered a safe stage where rebalancing, bucket strategy or equity returns etc., are no longer a concern, and we can pass the portfolio to children after our time? Do we need to take it to 2.5 or 3 or more times before assuming to have attained Nirvana? Hoping to see a Post if the question makes sense”.
We cannot answer the question for your particular situation as the information is insufficient. Yes, I agree that a cash flow twice the annual expense is a good place to be in, but considering the uncertainties in the cash flow and inflation, how long this would last is a big question mark.
Inflation would ensure the expenses close the gap in about ten years. Over that period, interest rates could fall further, resulting in lower and lower cash flow. So one cannot bank on this.
Let us consider a general guideline when things become “comfortable” in retirement planning. Naturally, these numbers would be scary to those who have just started planning for retirement. but don’t worry, you will soon be able to appreciate them.
We recently discussed the “ideal” or the “safest” withdrawal rate (defined as annual expenses in the first year or retirement divided by corpus available then): I plan to retire in 25 years what should be my safe withdrawal rate?
What is a safe withdrawal rate? The safe withdrawal rate (SWR) is the annual withdrawal amount in the first year of retirement divided by the available retirement corpus. Backtests are usually used to determine an acceptable rate. We use equity and debt market data to determine which rate results in the best results: corpus outliving the individual more often than not. Note: The SWR is only the withdrawal rate in the first year of retirement. Withdrawal rates after that will be naturally higher.
We reproduce the example discussed in the article using the freefincal robo advisory tool.
Assumptions and inputs
- Age 30; Age of spouse: 28 (We appreciate the reader here is 45, but our interest here is only in the SWRs)
- Current monthly expenses that will persist in retirement: Rs 50,000
- Retirement age: 55
- Years to retirement 25
- Total average monthly expenses (annual/12) 50,000
- Percentage by which your monthly investments can increase each year (until you have accumulated enough for retirement) 10%
- Post-tax return expected from equity investments 10%
- Post-tax return expected from current taxable fixed income 5%
- Rate of return expected from current tax-free fixed income 6%
- Inflation before retirement 7%
- The assumed life expectancy of the younger spouse: 90
- Inflation during retirement 6%
- Monthly expenses in the first year of retirement Rs. 2,71,372
- Years in retirement (until younger spouse reaches age 90) 37
- Corpus already accumulated is assumed to be zero for convenience.
Result 1: Corpus required with no income flooring or laddered annuity: Rs. 9.82 Crores. Withdrawal rate: 3.31% (withdrawal rate here only refers to the value for the first year of retirement).
Result 2: Corpus required with 100% income flooring (single monthly annuity = monthly expenses in the first year of retirement): Rs. 13.08 Crores. Withdrawal rate: 2.49%
Result 3: Corpus required with 100% income flooring (single monthly annuity = monthly expenses in the first year of retirement): Rs. 25.40 Crores. Withdrawal rate: 1.28%
References:
So, when can I stop worrying about managing my retirement corpus and get ready to leave a legacy? When my SWR is about 1.5% or lower! If I invert the SWR, I get the expense multiple.
So 1/1.28% = 78. So if my retirement corpus is about 80 times the annual expenses in the first year of retirement (aka 80X), and if I have appropriate safeguards like an annuity ladder in place, I can reasonably assume that managing the retirement buckets would become considerably “lighter” (although such activity can never be eliminated).
At these corpus levels, I can afford to buy one or more annuities with a “return of purchase price” to leave behind as a legacy (among other investments!).
Readers may be appalled at these huge numbers, but we can assure you that things change quickly. When I started investing for retirement, the target investment amount was more than I could afford. However, after a decade of systematic investing and some luck, I reached the threshold of financial independence (= 30X). See Fourteen Years of Mutual Fund Investing: My Journey and lessons learned. I could go past this mark with sustaining investing, often at a rate higher than the return obtained. So 80X is possible. Don’t lose hope!
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Dr M. Pattabiraman(PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. He has over nine years of experience publishing news analysis, research and financial product development. Connect with him via Twitter or Linkedin or YouTube. Pattabiraman has co-authored three print books: (1) You can be rich too with goal-based investing (CNBC TV18) for DIY investors. (2) Gamechanger for young earners. (3) Chinchu Gets a Superpower! for kids. He has also written seven other free e-books on various money management topics. He is a patron and co-founder of “Fee-only India,” an organisation for promoting unbiased, commission-free investment advice.
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