One common question i received over last few weeks is “Why are you focusing on retirement planning?”. I started with counter question, what other goal you want to plan for? Answers ranged from buying a car, buying a house or going for foreign trip, Child education etc. This made my reply simple, Have you heard of Car Loan, Home Loan, Education loan, Personal Loan? But Have you heard of retirement loan? During our retirement years, we are having limited future earning potential, Physical energy and fitness. Also, We should aim to have a peace of mind. Do you agree? If yes, Let’s continue.
In part 1 (Know your retirement corpus), we discussed about how to calculate your required retirement corpus. In Part 2 (Build your Retirement Portfolio), we talked about the type of funds to invest, based on corpus required and time horizons. Today onward we will talk about various risk in retirement planning and how to mitigate them. Due to increasing awareness, people have understood inflation but do you know two types of inflation?
Price & Lifestyle Inflation:
Inflation or Price inflation refers to rising price of products. 5 years back, If you were buying milk for Rs 30-35 per liter, probably today you will be paying Ra 40-45 per liter. In other words, If you were able to manage the household expenses in Rs 10k a month, today you will need Rs 12-15k a month. This is due to increasing prices of Fuel, Rentals, Grocery, Vegetables etc. As RBI now targets to manage this inflation, we can safely assume that it will stay in range of 5-7% over the next 5-10-20 years and hence can be planned for. This is uniform for all of us and we already adjusted for this, In part 1 (Know your retirement corpus).
Lifestyle inflation is more personal in nature and varies drastically. This is very high in the starting period of your career as you go through a lot of changes in your lifestyle. E.g. 10 years back, I depended on tiffin services for my food at Rs 20 per meal in turn Rs 1,200 to 1,500 month. with 5-7% price inflation this should have doubled to Rs 2,500 to 3000 a month. Though in reality, Now I try to eat from a better place, also order food from outside more frequently and occasional fine dine outings have moved my food bill to Rs 12k to 15k a month, which is growing by 8-10 times in 10 years. This is because of Lifestyle inflation.
Similarly, Now i will prefer travelling by flights or A/C coaches vs Sleeper or general class in trains. Prefer to stay in gated society in 2-3 BHK flat vs Individually rented rooms/sharing accommodations. Prefer to take a cab vs local buses, prefer to go to multiplexes vs watching a downloaded movie etc. These are all examples of Lifestyle inflation and should be there as your capacity to earn and earning rise over the years.
How to plan/ adjust for Lifestyle inflation?
We should definitely not devoid ourselves from the pleasure of buying the desired watch or go for the long due foreign trips but still make sure that it should not derail our retirement plan. There are two ways to keep the risk form lifestyle inflation in check.
- As the earning power increases, with your income, your expenses and savings should increase in similar proportions. Means, if your salary increases by 10-20% a year so should your investments. This will keep our expense ratio to income constant which should decrease after 10-20 years of working life as the growth of expenses should slow down.
- As the expenses are growing by not only by price inflation, Every year you should review your retirement portfolio requirement and investments need based on latest expense.