Equity mutual funds let accumulate retirement funds at a double digit rate of returns through systematic investment plan. Debt funds can be used to protect the kitty once investor reaches age of retirement.
Retirement is that stage of life where everyone wants everything to be perfect. Be it regards to life or finance. To have a perfect life one needs to have perfect control over finances. A person opts for retirement to get free from work life but not from financial responsibilities. One still needs to take care of family expenditure and that’s why every single person should plan for the retirement to lead a peaceful retired life.
Planning for retirement is considered difficult these days due to fast changing economic conditions, life styles, and medical advancement. However, fact is that, if not planned then living post retirement could be even tougher.There are many financial products flooding in the market which an investor can choose to invest for retirement, however, investors need to decide on right product. Now this can be decided by understanding the risk apatite one has and then making right strategy, so that planning doesn’t go wrong.
Suppose an investor who is 30 and wants to retire by 60, requires Rs 5 Crore as his retirement corpus. Now which product to select so that investor reaches his goal? This is one of the very common questions every investor has in their mind before investing and can only be answered by understanding the risk appetite of an individual. Suppose, if an investor is very conservative then it would be difficult for him to reach his goal as with 9% average return product (for example return generated on PPF like debt product in long term) over the period an investor would require Rs 47,000 every month to invest. In case of insurance pension plans this amount will definitely increase as returns are even less than bank deposits.
Again if an investor is aggressive and can take risk of investing into equity then with an average 15% CAGR, he would require only Rs. 18,000 per month to reach his goal. There are investors who understand the equity market and keep an eye to the market to take an advantage of it but there are also investors who do not understand it much and want be secure their retirment while investing. For such investors, equity mutual fund is the best bet.
Not only in terms of returns, there are also other benefits which make equity fund a better option to build retirement corpus. Let’s have a look at some of the benefits:
Liquidity: Open ended mutual funds schemes provide option to redeem on demand. This is helpful during emergency or while doing rebalancing. While other products such
as PPF and an insurance policy comes with a defined lock in period, one cannot easily withdraw money when needed.
Tax Saving: Some equity mutual funds schemes are eligible to get benefit under Section 80C. Also, all the equity schemes are exempted from long term capital gain (LTCG) after one year. It means redemption after one year is totally tax free in the hands of investors. While in other products, such as insurance, one has to hold much longer - five years minimum, to make it tax free.
Lock in: In case of open ended MF schemes there is no lock in option. An Investor can withdraw amount even after 3-4 days, however he has to pay little exit load (if applicable) as defined in the scheme document. In closed ended mutual funds, one cannot withdraw his investments before maturity in an easyn way. Units of closed ended funds are traded on stock exchange and if required, one can sell the units over there. In case of ELSS funds, before three years an investor cannot sell the units.
While looking at PPF, it has a tenure of 15 years, however, one can withdraw money from the end of 7th years as defined in the term and conditions. In insurance pension plans, if one wishes to withdraw the amount he has to pay a heavy penalty or in other words only one third of the accumulated amount is available to withdraw.
Which strategy can be useful for equity mutual funds?
Different investors have different strategies for investment related to equity. Few people love to stay invested for long term without disturbing the corpus, while few prefer to do rebalancing of their portfolio at regular interval. However, when we talk about retirement an investor can refer the recommendation mentioned below:
Pre-retirement: Building up corpus by investing in regularly through SIP mode.
SIP (systematic investment plan) is the way to invest in systematic manner in a volatile asset class such as equity. It allows regular monthly investments and eliminates risk of ill-timing the market.
Close to retirement: Transferring corpus to debt/ fixed income funds.
Once the corpus is built and investor is close to retirement (retirement date is three to five years down the line), then one should try to move a significant part of accumulated corpus from equity schemes to debt scheme via systematic transfer plan (STP) or through lumpsum transfer. Keeping retirement fund in equity can be risky as no one knows how market will react in coming future and if market crashes then one may lose most of the built up corpus and at this stage an investor can’t afford to be at such situation.
Post-retirement: Withdraw funds systematically
This is the time to enjoy fruits. One can either withdraw funds whenever needed or can also instruct the fund house through systematic withdrawal (SWP) facility to transfer funds into bank account at regular interval. This is similar to annuity from pension plans. The best part of SWP facility is that along with the withdrawal, balance corpus keeps on appreciating in the debt fund.
While planning a strategy for retirement goal, one should always have a long term view in mind. Equity mutual funds have potential to provide healthy returns in long term and so far equity is the only asset class which has helped an investor to beat inflation and generate tax free returns in the long term.
However, an investor can also take the help of an advisor to select the scheme and to make strategy for retirement planning.
The author is a Certified Financial Planner (CFP). He is associated with www.gettingyourich.com, a Mumbai based financial planning firm.