Investing for your retirement - Part 1

Investing for your retirement

Building up your Nest Eggs -

Now that Finance Minister has spoken and the post budget speeches by all have been done away with, I turn my attention to more “serious” things to consider. Unlike other commentators I will not indulge in useless and unproductive bashing of the finance minister. For that you can tune into the television channels of your choice where “paid” speakers provide their valuable personal feedback on the budget.

I am trying to find out the ways and means by way I am able to save up and invest for my retirement apart from saving up for  my children’s education and their marriage. Building up your nest egg’s or in layman’s term your post retirement funds is extremely important. Unfortunately I rarely find any erudite person on paid television or in the newspaper guiding me to do so. So being a professional let me start by helping myself.

Let me look at it by jotting down a few points.

1.       Start saving now –

It is imperative for us to start saving now.

This has various advantages. Apart from the benefits of compounding it would mean that if we can spread our total investments over a longer period of time, the contribution in a given year would be a lot lower to attain a specific target than if the contribution was spread over a limited time frame. This coupled with compounded interest which is provided by EPF (Employee Provident Fund), PPF (Public Provident Fund) and even Bank FD’s (Fixed Deposit’s) ensure that we are able to save a lot more if we start to save a lot earlier.

As an example Rs 20,000 invested for 20 years in a PPF (PPF term can be rolled over for additional 5 years after the completion of 15 years) will fetch you around 10 lakh at the end of 20 years.

On  the other hand if you start late and can invest Rs20,000 for 15 years only at the end of 15 years you will get a return of around Rs 6 lakh.

Rate of return in both cases at 8.6%.(not adjusted for inflation and tax benefit).

This is the power of compounding.

2. Do not put all your eggs in one basket   -Diversify your investments.

As a salaried employee 24% of my basic salary is “forced” saved into a Provident Fund account. This would give me returns of 8.25% for the year 2011-12, certainly much lower than the rate of inflation in India even if you consider that contributions are tax exempted giving a real rate of return of around 10.7% (assuming we are in 30% tax bracket) .

As a individual you can also open up a PPF (Public Provident Fund) separate from EPF with either the State Bank of India or in the Post office. Interest in PPF is at around 8.6% and like EPF contributions are eligible for tax benefits. However, you need to note that although the rate of interest is stable they are no ways fixed. The Government in fact has reduced the rate of interest on EPF from 9.5% for the year 2010-11 to 8.25% for the year 2011-12.Till now payouts at the time of retirement from both EPF and PPF are exempted from tax. This might change with the advent of the DTC (Direct Tax Code) under the EET (Exempt Exempt Tax) model. In a PPF in the State Bank of India a person can invest a maximum of Rs70,000/-. While EPF is “forced” on salaried individual PPF is voluntary and open to all.

However, for the purpose of claiming deduction under section 80C both are clubbed to compute the maximum deductible amount of Rs 1 lakh ( NSC, Insurance, Principal portion of EMI ,fixed deposits are also eligible,).

Since both PPF and EPF provide similar rates of return it is important to look at other investment option as well.

Insurance Policies of late have become a favourite of investors because they offer insurance along with returns other than the fact that it can be claimed as a deduction under section 80C.

However, the rate of return on insurance is very low .Most Indians would look at investing in LIC ( which in turns look s to bail out the Government example being the ONGC FPO issue in mar’12 ) which gives a rate of return of around 6%.( I am referring to endowment policy and not ULIP’s)

ULIP’s or Unit Linked Insurance Policy are Insurance Policies’ where the money invested by the investor is invested into either the stock market or the debt market (depending on the choice of the investor) and offers insurance as well. I have never been a fan of ULIP’s if you want to invest in the stock markets or Mutual fund or the debt market then you can do it on your own by careful research and reading the financial statement and performance of the MF or the company. There is no need to pay exorbitant management fees to fund manager. The greater risk lies in the fact that today most people look at investing in ULIP’s as a way to invest in the stock markets. Those that had invested prior to the Lehman Brothers crisis have suffered, the resultant crash in the stock markets post the Lehman brothers crisis  have reduced the value of units considerably and offer returns lower than Bank FD’s. Those who had parked their lifelong savings in ULIP’s as a retirement option have had their fingers burned.

I would be looking at picking up a simple vanilla “term” policy. A term policy unlike endowment or money back policy is purely insurance policy with no returns. It is meant to cover for your life and not an investment option. Since I already have an endowment policy with life cover with LIC the next insurance policy would be a “term” one. Term policies also have much lower insurance premium than an endowment policy and the money saved can be invested in an instrument or asset class which gives me more than 6% of returns.

Invest a certain portion of your retirement portfolio in gold. It is important to note that when I talk about investing in gold I am talking about holding physical gold and not the paper or electronic form.

The rate of return of gold as stated in my previous topic is certainly at par if not much better than that offered by other savings instruments.

Saving towards buying an apartment of our own is both an investment as well as a sound retirement goal. Ensure that you do not have any EMI’s still pending when you retire. In fact you should have cleared off all your EMI’s whether related to property, car, your children’s education well before your retirement.

If you are lucky to be earning and saving enough to go in for a second apartment after calculating the amount required for your child’s education and marriage and setting aside money for an emergency fund ensure that the apartment is in a city where you want to live your retired life. It might not be in a city where you are currently working. A second property is a very good investment option. You can get a steady source of income by renting it out or after selling the property you can invest the sale proceeds in a fixed deposit earning fixed rate of returns.

3. Put aside a part of your net take home for retirement –

Start saving up now for your retirement. Set aside a portion of your net take home (salary less deductions like tax, contribution to provident fund etc) to build up your war chest for retirement. DO NOT TOUCH IT. Start with an achievable number let us say 5% each month for 4 months and then increase it to 10%.If you can save more than that, that is great !Ensure that you do not add this number to existing retirement savings that you already do. (So do not consider any LIC premium or EPF contribution that you are doing already) .Believe me the way inflation is these days we will need every rupee for our retirement. If you buy gold or put it in a FD or PPF just please forget about it(meaning do not look to disinvest out of it). Unlike the stock markets these instruments and asset classes provide relatively stable and risk free returns and you do not need to check their returns daily. Saving an additional 10% for your retirement should not be difficult. As a salaried person I contribute 24% of my basic salary to a EPF account hence I should be able afford another 10% to be saved additionally for my retirement. In case you are not a salaried individual I advise you to set aside at least 25% of your net take home for investing for your retirement. Only for retirement.

Invest a part of your bonus or any additional receipts that you might get into a NSC or a long term Fixed Deposit. The best thing about an NSC or FD is that it has a lock in period for the investment. It would be difficult to disinvest in before the tenure of investment is over. Unlike PPF which has a fixed 15 year terms you can invest in an NSC in different denominations.NSC have a fixed period of 5 years reduced from earlier 6 year period. An amount of Rs 10,000 invested today will give you around Rs 15,000 after 5 years time and you will not be able to break that investment in between. On the other hand if you invest in a PPF fund today then you will only be able to receive the investment proceeds after 15 years. (Partial with drawl is allowed after 5 years)

Part 2 follows soon……