Credit Policy Dec 2018 and Benchmark Linked Retail Loans 10 Dec 2018
Busting Myths about Investing (3 Dec 2018)
Asset Allocation for the Retired
A person should be aware as to how to allocate the available money among various assets to generate a decent return , so as to maintain a healthy lifestyle during retirement. Ideally, investment should be spread across several asset types to meet the regular income requirements.
Mentioned hereunder are some pointers that should be kept in mind when managing a post retirement corpus and aiming for optimal asset allocation for the same :-
- Portfolio should be a mix of debt and equity, and risk level should be low
As a thumb rule, retirees must have an asset allocation which is based on their needs and not age. Even if one is over the age of 60, it is fine to have some equity allocation because not all money will be required for expenses in the coming few years. Thus one may invest the income required in the initial 5-6 years in fixed deposit/ debt funds etc, with the remaining amount being allocated to equity-oriented mutual funds. After every five years, reallocation of equity to debt can be done in order to generate income and rebalance one’s portfolio.
Financial planners suggest that one must be careful with risks as one approaches retirement or is retired. Cutting down on direct exposure to equity and making debt investments for regular income can be one of the main pillars of a good asset mix.
- Investing in Equity and limiting equity exposure to 20-30% of portfolio
Equity, as per several financial planners, are indispensable for every investor, young or old, as they are the only asset that can beat inflation over long periods . Besides having allocation towards safe debt products which caters to regular cash flow requirements, one should have equity-oriented investments, too. But many seniors are apprehensive of taking risk with their retirement corpus and lose out on better inflation beating portfolio returns by not investing in equity.
- Invest in instruments that beat inflation on a post-tax basis
A big challenge for retirees is to keep ahead of inflation. Many times unknowingly, people make the mistake of not investing in instruments that beat inflation, on a post-tax basis. As a result, their income becomes insufficient after a few years with rising living costs. Retired people often don’t think about inflation-adjusted returns and are sceptical of falling markets and interest rates, but it is a cycle and it (rate increase and decrease) changes every 5-7 years.
- Investments with long lock-in periods should be avoided
Post retirement, medical expenses become a part of regular monthly expenses. Other expenses are those due to vacation, motor insurance and home equipment depreciation and replacements etc. So some money should always be readily available. However, many people in order to keep their accumulated money safe , tend to go for long-term schemes. This in turn affects liquidity. Thus, investments with long lock-in periods should be avoided.
- Have a contingency fund for emergencies and health check –up
The need of regular income flow/Ways to generate regular income during retirement
For many people in India, the source of income after retirement is either pension received from the government (in case of government service), pension products bought from insurance companies or pension from fixed income instruments like FDs or bonds. However, given the current inflation scenario, these types of pension are not sufficient to take care of the retiree’s needs. Also, as many people in the retirement age bracket stop earning, it becomes a priority to ensure a source of regular income and have investments that are more liquid to meet any untoward emergency.
It is thus, necessary to create a pension portfolio which will generate income that will pay them sufficiently, every month over the coming years. Here are some of the ways one can create a steady flow of income post retirement:
Systematic Withdrawal Plan(SWP)
One of the best ways to ensure regular income post retirement is to invest in mutual funds and opt for Systematic Withdrawal Plan (SWP). SWPs are reverse of SIPs and allow investors to withdraw a fixed amount from their investments every month – the remaining stays invested. The usage of the portfolio becomes more efficient and there is lower tax impact due to the SWP effect. SWPs enable retirees to generate a monthly income in order to meet various post-retirement expenses.
Retirees can consider shifting accumulated corpus to less risky investments such as debt mutual funds and implement SWP facility. The withdrawal must be planned in such a way that it increases every year with inflation and it does not deplete the corpus too quickly. The withdrawal amount should be calculated in a way so that the life time of the corpus is more than the life expectancy of the investor and the spouse.
Public Provident Fund (PPF)
PPF is also one the financial product which gives EEE (exempt-exempt-exempt) tax status. It basically means that at the time of investments the interest earned, and maturity amount is all exempt from tax. It has a lock-in period of 15 years – so if investors invest for the entire term, the power compounding works it’s effects on the earnings for them. Even though it has a lock-in period of 15 years, it offers partial liquidity through loans and partial withdrawals.
PPF being, a very long-term saving tool with complete tax benefits is a must-have product in the retirement’s pension income portfolio while planning one’s pension income.
New Pension System (NPS)
NPS was designed to bring a greater number of people into the pension network after retirement. Individuals can claim an additional deduction of up to Rs 50,000 under Section 80CCD (1B), which is in addition to Rs 1.5 lakh permitted under Section 80C. At the time of retirement investors can withdraw 60% of the money which will be taxable in that year and remaining 40% should be compulsorily bought for an annuity which is again taxed yearly as per the individual’s IT slab.
NPS is market linked scheme and returns are based on the performance of the funds that investors choose. There are around eight pension fund managers to choose from and within that, investors have an option to invest in government bond fund, corporate debt fund or equity.
Insurance companies offer retirement plans giving the benefits of both insurance and investment which offer regular income to people after retirement.
These are Annuity Plans in which one invests a lump sum and gets a stream of income at regular intervals until death or the end of tenure. The payout can be monthly, quarterly, or semi-annually. The corpus at the end of the accumulation phase will be paid out in two parts—one-third as lump sum, with the remaining being converted into annuities. Upon the death of the annuitant, there is a death benefit in the form of a return of purchase price (excluding taxes).
However, as the interest paid is locked for life, it fails to beat inflation with time.
Annuity investments can be a good option to form a part of the portfolio to cover longevity risk. But considering that the returns are taxable and does not adjust for inflation, annuities should be only a small portion of the portfolio.
Fixed income instruments
Fixed Deposits are good for fixed and assured regular income. FDs yield better results when money is saved over a longer duration. FDs issued by Banks, large private companies and PSUs have an AAA rating. This makes it a very good part of the debt portfolio.
Senior Citizen Saving Scheme (SCSS)
Senior Citizen Savings Scheme (SCSS), meant only for the retired, is a government guaranteed scheme where one can deposit anywhere between Rs.1,000 and Rs.15 lakh and earn an interest of 8.7% (Q3) per annum. It has a lock-in period of five years that can be further extended by three years. The investment is exempt from tax under section 80C of the Income-tax Act, 1961, but the interest payment, paid quarterly, is taxable.
Retired life is supposed to be the golden period of one’s life, and if the money investment and management part is done properly, one can enjoy it well. When investing, one should see if the returns are taxable, whether they are growing to beat inflation and how easily he/she can access the money when needed. However, one should not take risks without understanding the product and may consider taking advice from an expert financial planner in this regard.
Debalina Roy Chowdhury
Radio Ishq 104.8FM On Start Ups (26 november2018)
What to keep in mind from the financial angle before deciding to jump the start up bandwagon.
Children and Money Ishq 104.8FM(19 November 2018)
Teaching Money Skills to children.
Teaching Money Skills to Children and Learning from them!
Sheroy does not have a specific plan for the Sheroy Corpus Fund. He has learnt the discipline not to waste or overspend from his family. “I want the security that come from having sufficient savings to continue,” he said. Just as he inculcated good habits from his family, he also learnt money lessons from their experiences. His grandparents did not buy a house early in their career and he now sees them dealing with the issues of renting a home. He sagely talks about maybe using the Sheroy Corpus Fund to buy a house early!
Radio Ishq 104.8FM
What is the mindset of Millennial’s and their attitude to investments and savings.
Dhantheras Special on Radio Ishq 104.8FM
Should you buy gold on Dhanteras?
Radio Ishq 104.8 FM
Checks to be done while purchasing a health insurance plan.
Co Owners and Co Borrowers on a home loan- Are they the same?
Is Real Estate a good investment for realizing your financial goals?
Raman, a 40 year old software professional wants to build a retirement corpus and build funds for his only daughter’s education and marriage. For this purpose, he has invested in some fixed deposits and post office schemes and also wants to buy a second property worth Rs 60 lakhs as an investment. He wants to use his accumulated savings for the down payment of the second house. Based on his income and expenditure patterns, he could easily get a loan of Rs 48 lakhs from any financial institution.
Raman will retire in 20 years and opts for a 15-year loan on the new property. But once he pays off the down payment Rs 12 lakhs and starts paying the EMI he is left with no investable surplus.
He decides the last five years prior to retirement will be sufficient time enough for him to generate retirement savings. He also assumes the property will grow in value by the time he retires and, the rental income would be sufficient to take care of household expenses post-retirement.
Disadvantages of Raman’s existing financial plan
- His asset allocation is heavily dependent on real estate and because of that his asset allocation is less diverse.
- The potential appreciation of the property’s value as per his estimation is based on his past experience and not dependant on facts or figures of the real estate market .
- Real estate assets can be illiquid and unless one is able to sell-off assets, it will not fetch much returns, when needed .
- Unless the property was bought much below the current market value, rent yields hardly match the interest earned on the savings bank account.
- He has ignored the maintenance and depreciation factors of the property.
- While rent may support his existing budget, he did not factor in the impact of inflation on his subsequent monthly budgets.
- Investment in real estate is not risk-free.
Actions to be taken to correct the situation
- He should focus on a personalised asset allocation plan as per his risk appetite and diversify his portfolio across various asset classes such as fixed income, equity, gold etc. His primary home, where he lives must not be considered for this purpose.
- He should reconsider buying a second house availing a home loan.
- He lacks a corresponding exposure to equities and has not invested in growth assets to meet long-term goals.
- Though his financial goals are focussed enough he should plan for both short-term and long-term goals.
- He is also advised to review it and rebalance his portfolio periodically, preferably every year.
Pitfalls of linking financial goals with real estate assets
In recent years there have been many instances of investors having increasing allocations to real estate as an asset class. It is important to understand how this over exposure might have pitfalls for them. The drawbacks are stated below:
Illiquid Nature – Considering liquidity as an important parameter in investment decisions, the fact that real estate investments are high value and big ticket in fact leads to illiquid assets. This actually means not being able to use funds even though the investor may have a high net worth, mainly due to illiquid nature of this asset class. Thus, it would be difficult to sell property immediately when there is a need for cash for a financial goal. Moreover, regulatory and transparency issues in the sector also pose risks to liquidity and jeopardise the investment .
Too much affinity towards physical assets – Indian Investors have a bigger emotional connect with physical assets such as real estate and gold as compared to financial assets. However there are two kinds of corrections that assets can undergo – price correction and time correction. The real estate markets are at present experiencing a time correction, where values have remained same over a long period of time, giving investors an impression that the valuations of their holdings are intact. This comes in the way of investors making rationale decisions to exit investments in real estate.
High absolute values – Many a time we hear stories as to how property bought a couple or more years back has grown and multiplied to worth crores of rupees. If one calculates the growth rate for this investment made in terms of today, the rate of return would be in the range of 10-12% per year. Assuming a long term horizon say 30 years in the Indian stock markets, one could have got much better results.
Easy availability of leverage – With the lowering of interest rates and attractive financing schemes, Indian investors are finding it easier to fund real estate purchases. As buyers usually have to put down only 20% of the cost, the balance 80% being funded by lenders, property purchase has become easier for investors.
However, investors need to be aware that since this is an unregulated market currently, they should not fall for any false promises and /or funding schemes which they do not understand. This may lead investors to get into a negative cash flow situation especially if the EMIs that they have committed to are high. As under construction projects may not be completed in time, there may not be any rental inflows and hence the burden of EMIs may not be comfortable for investors.
Too much real estate investments just because of taxation impact – The tax rules currently make it mandatory that the capital gains made from sale of property to be reinvested in real estate and/or capital gain bonds. To avoid taxation, gains from sale of property thus flow back into buying more of this illiquid asset class , thereby creating an overexposure of investor portfolios into this asset class. The other option of capital gains bonds offers a 6% rate of return which is less attractive to investors, thus making them go back to real estate, yet again.
Real estate purchase does not allow portfolio re balancing – Real estate purchase does not allow portfolio re balancing to happen from one asset class to another. For investors that are planning re balancing from real estate to debt or equity may find that they may be in a fix after exiting from real estate as they either need to go back to real estate or to debt in the form of capital gain bonds.
Debalina Roy Chowdhury