Where do You go Wrong in Retirement Planning?

Where do You go Wrong in Retirement Planning?

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Inflation is not the only culprit

You were told to start saving early in your life for retirement, and you did. But now in your mid-thirties, you feel you should have saved more, and spent less on clothes, movies and eating out. Inflation has caught up. Where did you go wrong?

You meticulously set aside 1/5th of your after tax income for retirement. But now, you don’t think that money is enough.

Inflation is not the only culprit. You failed to project your future requirements.

How do I do that?

Monthly expenses

For starters, consider all your monthly expenses. Add to them annual expenses such as life insurance and auto insurance premiums divided by 12.

Delete from the monthly expenses any amounts towards home loan installments and children’s education. Delete any other loan installments such as vehicle loan installments.

Total any expenses you may have spent in the previous 12 months towards building repairs, vehicle repairs, property taxes, society fees, gadget repairs, and healthcare. Divide this total by 12 and add the amount to the monthly expenses arrived so far.

Provision Set

Now, add a provision set. You need to provide for your health, your insurances, building repairs, your taxes, your purchases in future, and your travel in future.

Of these, health is the most difficult to plan for because you can’t possibly know much about your future health or that of your family members.

Collect information about how much is the room rent in hospitals, and other charges for surgeries such as knee cap, cataract, etc. You need to develop a sinking fund to cover this expense, which will be annually compounded at inflation rate.

Medical insurances need to be periodically revised upwards, till it no longer makes sense to do that, because premiums become too expensive. On the other hand, life insurance needs to be taken considering funeral expenses. Compounded values of funeral expenses should be taken into consideration. If at any point of time it seems that the existing provision is not sufficient, then additional policy may be taken.

You can estimate inflation on property taxes and travel from various websites. If you live in rented accommodation, you may have some idea about inflation on rent. Ideally, plan to own a home rather than continuing to pay rent.

How much should you provide?

Inflation rates differ on different products and services. Therefore, you need to prepare a list of all expenses and provisions as mentioned above in an Excel sheet, and write the rate of inflation applicable against each of them. Arrive at the weighted average, based on actual expenses.

How much should the provision be for health, taxes, and insurances in that list?

This depends upon the health of the family. But it’s a good practice to set aside about 1/4th of monthly income for these. Provision amounts should also include any health insurance premiums. Of this amount 1/4th, i.e., 1/8th of the monthly income should be invested regularly in stocks through systematic investment plans, or SIPs, for better returns.

These returns help to provide for improved standard of living as earnings increase with time.

How do I provide for cruises and other gadget purchases?

Like provision for health, a sinking fund needs to be created for these expenses as well, and an amount similar to home or vehicle loan needs to be added to the monthly budget.

Ok. Now I have an estimate of comprehensive monthly expenses and weighted average inflation rate. Where to go from here?

Now open a second worksheet and project the monthly budget at a weighted inflation rate across your lifetime, which should not be less than 90 years. If you do not survive till 90 then your spouse and children inherit the surplus. Basically, you would know how much you would need at retirement. Now, review existing monthly resources vis-a-vis these future requirements.

You will realize if you are on track or not and what you can or cannot afford to spend on at any point of time.

Conclusion

Retirement planning is more complex than what most online calculators project. Such online tools only indicate monetary need for one year, but people survive for several years after retiring, with no hopes of finding a job.

The budgets, plans, and projections developed in this way also need to be reviewed periodically to ensure that there are no unpleasant surprises at the last moment, when not a lot can be done to salvage the situation.

Image credit: retirement planning sydney by Joel harrison, on Flickr

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