Early retirement is a dream for many in India. An early retirement allows you to have complete control over time while offering an opportunity to pursue your passion. The principle of Financial Independence, Retire Early (FIRE) has become an essential part of retirement planning these days, especially among young professionals. However, it's crucial to decide how much money you need for your retirement years without running out of funds for the entire post-service years.
It could be a difficult task to calculate an appropriate retirement corpus to fund your monthly expenses during your golden years. Experts often suggest the 4% rule for building a retirement corpus. While this principle has remained a commonly used yardstick for building a retirement corpus, factors like inflation and longevity may derail your investment plans, especially in the Indian context.
Before delving deep into a complete breakdown of the 4% principle for early retirement, let's understand how it works.
What Is The 4% Rule For Retirement?
This principle was first proposed by American financial adviser Bill Bengen in 1994. The 4% rule offers a simple solution to compute an estimated value of your retirement corpus. As per the rule, retirees can safely withdraw 4% of their savings in the first year and the amount goes up in subsequent years due to inflation. So, the principle suggests at least a corpus of 25 times your annual expenses. Typically, under this principle, retirement savings could help investors receive monthly incomes for up to 30 years.
The 25x rule has remained a commonly followed principle for retirement savings. However, it may not be appropriate for the Indian context. Let's try to understand through an example.
Also Read: Want Rs 3 Crore Corpus At Retirement? Start With Rs 5 Lakh And Step Up SIPs By 5% Yearly
4% Rule For Retirement in Indian Context
Let's assume that an investor plans to receive a monthly income of Rs 1 lakh after retirement. So, as per the 25x principle, the total retirement corpus should be Rs 3 crore (Rs 12 lakh per annum x 25) to ensure a steady inflow in post-service years. However, the 4% rule may not be suitable in the Indian context due to inflation and longevity factors.
The 4% rule assumes an inflation rate of 2-3% based on the historic US scenario. However, the inflation rate in India has increased to around 5-6% over the years. Due to rising healthcare costs and certain lifestyle expenses, the monthly expenses in retirement years may also further increase.
In the given scenario, the withdrawals in the first year of retirement will stand at Rs 12 lakh. Due to inflation, the withdrawal amount will increase from the second year onwards. At an assumed inflation rate of 6%, the annual withdrawal amount will reach Rs 12.72 lakh from the second year and Rs 13.48 lakh from the third year and so on. Even if the returns are assumed at a marginally higher rate of 7% per annum, the retirement corpus of Rs 3 crore may last up to 29 years, keeping pace with inflation.
Also Read: Targeting Rs 10 Crore By Retirement? Here's How Much You Must Invest Monthly In SIP
Why 4% Rule May Not Be Suitable For Indian Investors
The principle of 4% withdrawal per annum and a 25x retirement corpus is based on a low inflation rate, social security support and shorter longevity in post-retirement years. This rule seems more appropriate for the US economic conditions. However, in India, inflation typically hovers near 5-6%, while social security schemes are not enough to offer financial support to all retirees. The 4% withdrawal may not be sufficient, as people are also living longer.
To conclude, early retirement requires meticulous planning with the India-specific socio-economic scenario. It's advisable to aim for a larger retirement corpus, taking into account the inflation rate to ensure financial safety during retirement years.
Essential Business Intelligence, Continuous LIVE TV, Sharp Market Insights, Practical Personal Finance Advice and Latest Stories — On NDTV Profit.