Case Study: Financial Planning for Retirees
Jul 31, 2010

Author: PersonalFN Content & Research Team

"Is Rs. 1.50 crore enough to meet my life expenses?"

Often, as individuals, we believe that our finances are under control, but the truth is it may be just an illusion.

At PersonalFN, we recently faced a very interesting case of an individual who was 65 years of age, and had already retired and wanted to plan for cash flows for the rest of his life. Please note, he already had a financial plan created for him by another financial planning firm, and wanted us to create another financial plan for him so he could see how to proceed.

So, what was his main financial planning objective? - To invest his corpus of Rs1.50 crore, so as to meet his expenses of Rs 1 lakh per month (i.e. Rs. 12 lakh per annum) on an ongoing basis.

Another noteworthy point was he had a secondary corpus of Rs 50 lakh which he preferred not to use for the plan.

Details were as follows:

Name:                        Mr. Retired (changed to protect privacy)
Status:                       NRI
Life Stage:                 Retired
Investible Corpus:      Rs 1.50 crore
Risk Appetite:             No risk - no capital loss is acceptable.
Goal:                          Assured monthly income of Rs 1 lakh, starting immediately, going on for life.
Life Expectancy:        85 years

On the whole, this situation to Mr. Retired seemed absolutely okay. "A corpus of Rs 1.50 crore should be enough to meet my life’s expenses"
But unfortunately that was not the case

Why?...read further to know more.

Reason No. 1:

The required return was not achievable in present times, by taking shelter under "safe debt investments" alone.

In order to earn assured income of Rs 12 lakhs p.a. (post tax) from a corpus of Rs 1.50 crore, assuming 30% tax, the pre tax income required is approximately Rs 17 lakhs per annum. The rate of return needed to earn this income is close to 11.50% p.a., which is currently unachievable, especially if corporate deposits are also not to be considered. Moreover, taking into account his low appetite for risk and guarantee for monthly income, exposing him to an equity allocation wasn’t the right option.

So, what were the available investment Options in "safe debt instrument":

Small Savings Schemes
When an individual looks at safety and guaranteed return, small savings are the first that any financial planner looks at. However, noting that he was an NRI, this option too was not available to do his planning.

Small savings schemes such as PPF, Post Office Monthly Income Schemes, Senior Citizen Savings Scheme - are off-limits for NRIs.
Bank / Corporate FDs
Yes , we did explore this option too, noting that the required rate of return is 11.50% p.a. But, presently as bank FDs are offering only between 7.00% and 8.50% for the 1 - 2 year tenure for senior citizens, this option too was ruled out.
Talking about corporate FDs - 1 year corporate FD rates were offering interest rates between 7.00% (these are the well known companies including housing finance companies - where the risk is much lower comparatively) and 11.25% (these companies are much more risky and risk of default and losing the capital invested is greatly increased) - all pre tax rates.

So, this option was ruled out as well.
Immediate Annuity Pension Schemes Taking into account that he’s a retired individual, we evaluated this option too. But this again did not meet the expectations of 11.50% rate of return, as the rate of return offered on such products are 7.50% per annum - again pre tax.

These are schemes wherein the investor invests his money as a lumpsum / regular premiums today and starts receiving premium payments immediately, going on for a specified term period or for life, as opted.

So, clearly, from a rate of return point of view, we were in a fix. And there was yet another reason why the corpus would not have been enough...

Reason No. 2:

INFLATION

To put it simply, inflation creeps into what you eat and how much you eat.

Mr. Retired needs Rs. 1 lakh per month (i.e. Rs. 12 lakhs p.a.) post tax today. That’s 11.50% return pre tax. But taking 7% average inflation rate, he will need more income, from the same principal (Rs 1.50 crore), to meet the same lifestyle expenses. Here’s a snapshot:

	Monthly Income (Post tax) in Rs	Annual Income (Post tax) in Rs	Annual Income (Pre tax) Rs	Pre tax rate of return
Income required today	1,00,000	12,00,000	17,15,000	11.50%
Income required in 5 years	1,40,000	16,80,000	24,00,000	16.00%
Income required in 10 years	1,96,000	23,50,000	33,60,000	22.40%
Income required in 15 years	2,76,000	33,12,000	47,32,000	31.50%

*Figures are approximate

And all the while "his investible corpus remains the same i.e. Rs. 1.50 crore.

So, given the facts, in present times the solution was simple and realistic.

We said at current rates of interest and given risk appetite and required corpus - the goal is not achievable, and the only way out was to adjust the goal or increase the available corpus.

The solution

We guided Mr. Retired through what he needed to do in order to make the most of his available corpus while making sure he was within his comfort zone on the risk appetite front.
We provided him with a cash flow for his whole life, showing how his income would be generated, and how his expenses would grow with inflation.
With a corpus of Rs. 2 crore, and taking no risk on his capital, Mr. Retired is able to achieve monthly income of Rs. 72,000 approximately, growing yearly to meet inflation.

The learning:

It is the role of your financial planner to provide you with a true and unbiased financial plan, thus not just helping you achieve your financial goals, but are ensuring that you are financially healthy , by taking only optimal risk to achieve the required rate of return.

So, is your financial planner taking this role seriously?

While choosing a financial planner – you should ensure that your financial planner does not take his own risk appetite & risk tolerance into account, but considers your risk appetite & tolerance. It is important for you to see that your goals are met in a manner that does not expose you to risk that is beyond your tolerance – especially if you are already retired.

Remember, a wise Financial Planner will keep you Financially Healthy.