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  • Writer's pictureAkshay Nayak

Blocking Out Retirement Planning Blunders

When planning our retirement, we may tend to make decisions that seem harmless and insignificant in the short term, but go on to have seriously adverse long term consequences that are usually irreversible. Therefore it is important for us to recognise what these decisions are, how their second order consequences would impact us in the long term and how we can avoid them so as to ensure a stress free and fulfilling post retirement life for ourselves and our families. And those are the very same aspects I will be talking about in this post.

Underestimating the amount of money we would require as a retirement corpus is the first wrong decision we tend to make. Some of us may feel that we can afford to put off planning for retirement to a later date. We do this because we follow thumb rules like the 4% rule which says that a corpus worth 25 times our current annual expenses would be enough to sustain us through our post retirement lives for 30-35 years. But such an approach does not account for the effects of inflation. This would render our retirement corpus significantly inadequate in terms of real purchasing power. When we consider inflation, we can use the rule of 72 to show how quickly our annual expenses would double at a given rate of inflation.

The magnitude of the difference in retirement corpus calculations when ignoring inflation as compared to when considering inflation can be understood with an example as shown below.

This should make it clear that creating an adequately sized retirement corpus that is appropriately adjusted for inflation is no small challenge. Therefore, we must ideally give ourselves at least 25-30 years when planning for our retirement. This means we need to initiate the retirement planning process as early as possible, preferably as soon as we start working.

The decision to not involve our spouses or partners when planning for our retirement is another grave mistake that we tend to make. This is especially true in the case of households where there is a single breadwinner who is in charge of taking financial decisions. This happens because the overriding notion is that when there is one member who is well placed and capable of taking financial decisions, it would be best to leave everything entirely to that person. But, taking all the financial decisions related to our households ourselves means that we run the risk of our spouses or partners not knowing what to do in our absence. And given that our partners or spouses would be with us on a daily basis, every financial decision we make would also equally impact them. Moreover, if our partners are younger than us there is every chance that they would live on after us owing to a higher life expectancy. So there are enough number of potential situations where our partners or spouses may need to manage the finances of the household leading up to and post retirement. Therefore, they must have a fair working idea of household money matters at all times.

Many of us also aspire to buy a new home to serve as a dedicated retirement home where would move in for the post retirement phase of our lives. We may therefore select and purchase a house of our choice a number of years before we actually retire. We may do this because we feel that since our income is usually significant and stable during the early and peak years of our careers, it would be best to leverage that advantage and purchase a retirement home. This is especially true when there is a crash in the real estate markets. On the face of it, this seems like a perfectly logical financial decision. But there are a few second order implications that we usually fail to consider. To begin with, our retirement home may lie vacant for significant stretches of time until we move into the home, if we cannot find tenants to occupy our retirement home until we ultimately move in. Also, the predominant portion of the costs of maintaining our retirement home may have to be borne by us. Moreover, there is a chance that our physical health may have significantly deteriorated by the time we move into our retirement home. And so, we may find the accessibility of our retirement home to be an issue. This is especially true if we move into our retirement home in our later years, say post the age of 60 or 65. Therefore it is better to create and follow a sound financial plan for the purchase of our retirement home and complete the purchase at a later stage. The best time to go through with the purchase would be 1 to 3 years before we intend to retire. By then, we would have saved up enough money for a new home. We would also have a clear idea of what our physical health looks like at that point of time. We would therefore be able to choose a home that is ideally suited to our needs in terms of accessibility and convenience. Here are some of the other things to consider when buying a retirement home.

Another error some of us may make with regard to our retirement planning is to borrow from our Provident Fund accounts for short term needs such as meeting monthly expenses, purchasing and/or repairing a house and so on even though we may not really need to. Borrowing from a provident fund account is fairly simple for someone who has served for 5 years or more, since partial withdrawals can be made from this account after 5 years. Also, such withdrawals are not taxable in the hands of the account holder. But these benefits do not justify the decision to withdraw from our provident fund accounts. The fact that we need to withdraw from our long term investments to meet our short term needs is indicative of the fact that the ineffective cashflow management system we have put in place may be ineffective.

And that is the central issue that needs to be tackled. This can be done through proper budgeting of expenses and setting up and/or augmenting our emergency fund. Our provident fund accounts should be treated as an investment avenue that is exclusively earmarked for our retirement, and withdrawing from our provident fund accounts should only be a last resort.

Errors may also creep into the way we handle our investments in the lead up to retirement and beyond. Firstly, we may look to run complex, product heavy portfolios especially during our pre retirement years. We may do this because we wish to invest in every investment product that catches our attention. But such an approach dilutes our exposure to each individual product and therefore does next to nothing in terms of boosting long term portfolio returns. Also, we may develop cognitive issues in our later years post retirement. Managing complex portfolios in such situations would only become that much harder. Therefore our retirement portfolios should ideally only consist of a select few high quality investment products within each asset class we have invested in.

But the need for simplicity does not mean that we hold all our retirement money in cash, fixed deposits and other traditional investment products. Assuming a retirement age of 55 and a life expectancy of 90 years, we would have to plan for 35 years post retirement. This means that we would still need to guard against inflation, for at least the first the first 20 years post retirement. Therefore, at least 30% of our retirement money must be in equity even after we retire. Towards the fag end of our expected lives say age 70 onwards, we may consider gradually moving all our money into safer assets. All in all, any decision we make with regard to planning our retirement would have some implications that are clearly apparent and others that are more subtle and harder to perceive. Making decisions based solely on the most visible and understandable implications is the major source of errors in retirement planning. More efforts need to be put into understanding the nuances and broader implications that our retirement planning decisions have on our overall financial position. That is the only way to ensure an error free, fulfilling retirement for ourselves and our families.

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