Opting for the early retirement route requires serious financial planning as increased life expectancy and increasing inflation can play havoc with your plans.
Envy that neighbour in his mid-40s who has retired from the corporate rat race and spends his time volunteering and pursuing his hobbies? You can be that person too, provided you are aware of the financial implications and are prepared for them. Plan meticulously if you want to hang up your boots early, so that your second innings does not turn into a financial nightmare.
Why retire early?
Three broad trends are apparent. One, high salaries have meant that many people in their mid-40s have accumulated enough money to fall back on for the rest of their lives. Such individuals seek to work shorter hours, spend more time with their families and pursue other interests. For instance, Prashant Sankaran, the former CEO of IT firm Blue Shift India, said goodbye to corporate life to enjoy a less gruelling schedule and spend time mentoring and doing voluntary work.
On a less happy note, people are also exiting their careers early to escape unrelenting work pressure. This trend is more evident in slow-growing sectors. India's demographics also play a role. Since many younger people with the same, or even better, skills are constantly joining the workforce, and are available at a lower cost, companies have an incentive to edge out older workers.
The challenges
Advances in medical science have driven life expectancy up: it now stands at 67.3 years for Indian men and at 69.6 for women. A middleaged person in sound health can expect to live up to 85-90 years. Here lies the dilemma.People are cutting short their careers at a time when they have 30-35 years or even more to live. Funding their lives for so a long period requires huge savings (see graph).
Inflation poses the biggest threat to retirement savings. Anil Rego, CEO of Right Horizons, says, "Most people may have enough money to live on when they retire, but most underestimate the impact of inflation on their savings in the long run." Rego uses an inflation rate of 6% to calculate how much his clients need to save for retirement, because he expects inflation in India to moderate as the economy matures. On the other hand, Vishal Dhawan, Chief Financial Planner at Plan Ahead to Wealth Advisors, uses an 8% rate. "You need to factor in lifestyle inflation," he says. For instance, if you are 35 now and your annual household expenditure is `6 lakh, you will need a corpus of `3.6 crore to retire by 45 and maintain the same lifestyle till you are 85. This is assuming inflation remains at 8% and the expected returns on post-retirement savings is to the tune of 10%.
Cost of living is growing rapidly not only because goods and services are becoming costlier but also because of a higher standard of living. With women's life expectancy higher than men, a retirement corpus must also make adequate provision for the spouse.
How to prepare yourself
Upgrading your skills is imperative. Develop unique or differentiated skills that are hard to replicate. Invest money on learning if you wish to prolong your career. "Don't depend only on employer-sponsored programmes to upgrade your skills," says Dhawan.
On the financial side, prepare yourself for early retirement by beginning to save early. The earlier you wish to retire, the more you need to save in your working years. While many aspects of your career are beyond your control, how much you invest is in your hands, so do it aggressively.
Develop a contingency fund equal to at least six months worth of living expenses. While you are still working, ensure that you have adequate protection by way of life and health insurance. Even if your employer has given you a generous health cover, buy one of your own. If you lose your job at an older age, insurers could turn down your application for a health cover or enforce a waiting period for illnesses you have.
As you touch your mid-40s, avoid overleveraging. Before taking a home loan, think hard about your ability to service the EMI in case you lose your job suddenly.
A smart way to cope with early retirement is to develop an alternative income stream even while you are employed. If you can write, teach or consult, or make any of your other hobbies pay, you will not depend entirely on your investments to sustain you after retirement.
Ensure that your spouse is ready for the job market. Often, women take a break to have and raise children and then find it difficult to rejoin the workforce.Their skills may become outdated and they may no longer fit into the current job market. Invest in upgrading your spouse's skills.Sankaran's wife's entrepreneurial venture took off even as his corporate career wound down. This mitigated the financial risk posed by his decision to step off the corporate runway early.
Finally, don't stop working entirely. A regular income, even if much lower than your last salary, will go a long way towards reducing the burden on your savings.
Build the right portfolio
To retire between 45 and 50, your investments must earn a high rate of return. "A 15% return is imperative," says S.G. Raja Sekharan, who teaches Wealth Management at Bengaluru's Christ University and has authored a book, How to get rich and retire early. Earning high returns will only be possible with the right asset allocation in your retirement portfolio. Your asset allocation must take into account your risk appetite and the time left for retirement. Dhawan says any portfolio meant for achieving a target more than 10 years away should be tilted predominantly in favour of equities--70% or so. "If you are a salaried employee, a large portion of your retirement portfolio will already be in fixed income instruments because of your Employee Provident Fund (EPF) savings, so direct more of your own investments towards equity-based instruments" he says.
Diversified equity funds and ELSS funds are good bets. If you have eight funds in your retirement portfolio, two should be large-cap growth funds (40%), two mid-cap (30%), two international (20%), and two value-oriented funds (10%). On the debt side, you may have EPF, PPF and debt mutual funds. Highly conservative in vestors may avoid the last option as they do carry the risk of losses in a rising interest rate scenario.
Avoid putting most of your retirement money in inflexible instruments. "Since the retirement age itself is no longer fixed, it will not do to have all your money tied up in products that offer liquidity only at a fixed age," says Dhawan.
Pay heed to after-tax returns while building your retirement portfolio. The NPS corpus is taxed on maturity, while EPF is not. Nonetheless, your post-tax returns from NPS could be higher because 50% of the NPS corpus can be invested in equities, while the EPF invests only in fixed-income instruments.
A part of your retirement corpus may also be invested in real estate. Avoid investing in apartments now, given their already-high prices, which could translate into low future returns.Consider already-leased commercial property, where the rental return can be as high as 6-7%. Plots are another attractive option. Says Raja Sekharan: "Plot prices inevitably appreciate, giving a return as high as 18-20% per annum." He suggests buying a plot on the outskirts of a city, close to a highway. Hold the plot for three years and then sell it. Use the capital appreciation to meet your retirement expenses and reinvest the principal. Hire a lawyer to ensure that the title is clean, or else you could face trouble while trying to sell the property. Second, buy the plot within a builder's complex to minimise the risk of encroachment. If possible, erect a boundary wall and post a guard.
If planned meticulously, there is no reason why early retirement can't be the leisurely and pleasant experience you have envisaged it to be.
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