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Showing posts with label Retirement. Show all posts
Showing posts with label Retirement. Show all posts

How much do you need for your retirement fund?

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Jake

Before we compute for our retirement fund, we must consider the definition of retirement. From Colayco's books and from financial institutions.

"Retirement is being able to have sufficient fund or income generating assets that are able to sustain your current lifestyle. It is the capability to achieve financial freedom without having to worry about money to support your needs and wants".

This is the stage in life that we consider as 100% Passive Income.

We need to consider the following data for us to compute the needed retirement fund:



  1. Current Personal Expenses – If we are to maintain our current lifestyle, no need to adjust this value. If you want to increase the quality of your lifestyle in the future, increase this value.
  • i.e. Maintain Lifestyle = 30,000, Improved Lifestyle = 50,000
  1. Average Inflation rate – average inflation rate from 1995-2009 is 5.8%. We will use this value for our example
  2. Retirement Age – Government standard is age 65. But surely, majority of us would like to retire earlier than 65.
  3. Life Expectancy – This is the age wherein you will be "Taken out from the picture"
  4. Post-retirement interest rate – This is the interest rate of your investment instrument where your fund will be place during your retirement.
Step 1: Determine your annual future expense at the beginning of your retirement

i.e. Current monthly expense = 30,000. Annual expense (PV) = 360,000
Average inflation rate(i) = 5.8%
Post-Retirement Interest rate = 2.5%
Current age = 30
Desired Retirement Age = 55
Life Expectancy = 75

Years before retirement (p) = 55-30 = 25

Using compounding interest formula:



FutureValue = 1,473,819.14

You may also use the MS Excel Function "FV" to calculate future value.

i.e. =FV(0.058,25,0,-360000,1)


Step 2: Calculate the Real Interest Rate.

During retirement, our expenses will still increase over time due to inflation. The Real Interest Rate adjusts the rate of return of your investment if inflation rate was to consider.



From our example:



If we experienced a negative value on our Real Interest Rate, it means that the inflation rate is higher than the interest rate.

Step 3: Calculate the retirement fund needed to be able to sustain lifestyle from Age 55 to Age 75

The formula here is a bit complicated. We will be using the Simple Interest Amortized Loan Formula to get the retirement fund needed:


PMT = -1,473,819.14 (this should be negative)

i = -3.119% (This should be negative since inflation rate is higher than

n=Retirement Years = 75-55 = 20 Years

PV= 41,801,703.26

You may Also use the MS Excel Function "PV" to retrieve the same value.

=PV(-0.03119,20,-1473819.14,0)

The graph below shows a good illustration of your fund and expense during your retirement years:


From the example, for him/her to retire comfortably, he/she needs to accumulate a total fund of 41.8M at the age of 55.

Did it give you a headache? Which one? How to do the calculation or how to accumulate 41.8M pesos worth of retirement fund?
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Why do you need to prepare for your retirement?

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Jake

Young professionals are complacent with their financial situation and doesn't bother them to worry about retirement at the early stage of their career. They kept on providing excuses like "I'm still young" or "I still enjoy working" as a reason for not planning for their future. Before we go further about retirement, let us try to define the true meaning of retirement by removing some common misconceptions about retirement planning.
Misconceptions


  • "I plan to retire at the age of 40 so that I could setup my own business
    • Retirement is not having a business of your own. If you set-up your own business, you would still be actively working of your income 
  • "I would like to stop working at 55 so that my children will take care of me"
    • Retirement is not depending on someone else. Would you like to burden your children of additional financial expenses which they should have been using it for their own family? Think again!
  • "I think I will die early, that's why I don't think about retirement"
    • What if you will live long? Would you like to see yourself begging for food from your children? Would you like to see yourself still working at the age of 70?
  • "I will plan on my retirement 5 years before I retire"
    • Seriously? Have you heard of inflation rate. Or are you hoping that you will win the lottery.
  • "I have retirement benefit on my company, I don't need to worry about it"
    • Good for you if you imagine yourself working at your current company at the age of 55 or 65. But you have to consider other situations that might relate on your company. What if you no longer like to stay on your company? What if the the company was dissolved? What if they laid you off?
Statistics

Statistics based from Study of Lifestyles, Attitudes and Relationsips (SOLAR), out of 100 Filipino Retirees:
  • 22 continue to work
  • 30 rely on charity
  • 45 depend on their family or relatives
  • ONLY 2 ARE FINANCIALLY INDEPENDENT
The right definition

I found the suitable definition of retirement from the books of Colayco and sales presentation of an insurance company. Retirement is being able to have sufficient fund or income generating assets that is able to sustain your current lifestyle. It is the capability to achieve financial freedom without having to worry about money to support your needs and wants.

Retirement expenses

Based on the definition of retirement, we will emphasize on the aspect of "no longer actively working to sustain your current lifestyle".

Because of inflation rate, you may want to consider planning for your retirement because of increasing expenses. If your current age is 30, and your monthly expenses is 20,000/month with an annual inflation rate of 5.8% (15 year average inflation rate from 1995 to 2009), your monthly expense at the age of 55 is around 81,000/month.

Age
Monthly Expenses
30
20,000.00
Still Working
35
26,512.97
40
35,146.87
45
46,592.39
50
61,765.13
55
81,878.84
No Longer Working
60
108,542.55
65
143,889.26
70
190,746.56

Now the big question is "with all your savings or provisions, do you think it could sustain your lifestyle during your retirement years even though you are no longer working?". Now that is why you need to plan for your retirement.
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