Our average life span is 74. Typically, we depend on others for 20 to 25 years. Then we work for 30 to 35 years. In that period of time, we may be raising a family, perhaps supporting our parents, seeing children through college, etc. On top of that, we need to set aside money to keep ourselves alive and comfortable for about 20 years. Or depend on others again.

Premature death may cause considerable financial hardship for the family especially when children are in the midst of tertiary education. Hence, insurance is vital to the family in case of premature death.

On the other hand, living life beyond the expected lifespan means having to build sufficient reserves to take care of one's living needs till death, if one wishes to avoid becoming a burden to others.

Let us assume a typical worker consistently keeps aside 10% of his take-home pay for retirement, from the beginning of his career till retirement age. He has a constant 5% salary increment and EPF savings, and meets other financial requirements from the balance of his income. Let us assume that inflation after retirement is 3% p.a. and he earns an average of 6% p.a. tax free (or equivalent to gross of over 8% p.a.) on his investments. Based on the scenario described, he will have just enough income post-retirement to last him for 20 years at the same expenditure level just before retirement, while preserving his capital.

If he has not made any savings, his EPF fund will last him another 21 years if he keeps the same spending pattern as the one just before retirement, but there will be no capital left.

Decide what is needed

The first thing to do is decide what is needed on retirement as monthly living cost. This can be expressed as a percentage of the current standard of living. If for instance the plan is to maintain the same standard of living, then the living cost would equate to 100% of today's cost of living. Let us say this is RM 5,000 per month (including taxes). This is the living cost in today's terms.

Factor in inflation

If overlooked, results can be very misleading. Remember what a cup of coffee cost ten years ago and now. Inflation of 5% p.a. means prices double every fourteen years. So decide what inflation rate should be factored in to the monthly living expense. Thus, if retirement is due in fourteen years' time and inflation factored is 5% p.a., then the living cost required to be covered in the example above is RM 10,000 (double) per month. This is the projected living cost.

Work out fund needed

The fund required for retirement would be the minimum that should be available to generate the projected living cost. The size of this fund would depend on what is expected as the average yield of the fund. If say, the expected yield is 7% p.a., and the projected living cost is RM 120,000 per annum (RM 10,000 per month), then the fund size required would be 100/7 of RM 120,000, i.e. RM 1.7 million.

Remember, the yield depends on what type of investments make up the fund and this should be in line with what the person is comfortable with, i.e. his risk appetite. The higher the yield expected, the riskier the investments are likely to be.

Start off early

It is quite a challenge setting aside a retirement fund, even at an early age, because of more immediate priorities such as the children's education and inflationary pressures in cost of living.

The earlier one starts to plan and set aside, the better. For two reasons:

When income generation is not enough post retirement, unless some windfall comes along, one would have to delay retirement, seek employment or other income, cut the standard of living or eat into capital.

Save for the unexpected

While one can assume various things that seem reasonable enough, unexpected things can and do happen.

For example, the retirement plan does not provide for illness at all. For that, take medical insurance and/or set up a separate medical fund. Even with that, there can be surprise calls every now and then. Perhaps some seed capital is needed to help a loved one get started in business.

Therefore, it is best to plan retirement with a wide margin of error so that one is not caught when nearing retirement.

One way to provide for a safety margin is to intentionally plan for a change in lifestyle, perhaps one that is less hectic and requiring less expenditure. A common benchmark for the replacement rate, meaning the ratio of post-retirement income compared to pre-retirement income, is two-thirds to three-quarters. This way, a person is better able to cope with adverse changes. Thus, for someone who is expected to earn RM 10,000 per month just before retirement, he could plan a post-retirement income of RM 6,000 to 8,000 per month to cover his living expenses.

Maintain financial discipline

While it is okay to go on a binge once in a while, do not compromise on the monthly savings put aside for retirement. And try not to touch the retirement fund (or EPF savings other than for investment) except as a last resort. The planned balance (between income, growth etc.) of the long term investment structure may be disrupted because of withdrawal or there may be other disadvantages such as withdrawal penalties. The biggest reason would be to not start the habit of raiding the piggy bank.

Pay off debts

As far as possible, debts should be cleared before retirement so that there is no longer the burden of loan repayments and interest servicing. It especially does not make sense to earn an income yield of say 6% p.a. and pay interest of say 8% p.a. Do pay off all credit card, consumer credit and hire purchase debts which can cost in excess of 10% p.a. Very few investments earn one that kind of return so by converting investments to pay such debts off, one is in effect earning the higher yield and risk free at that!

Plan investments and diversify

The most important part of retirement planning is to determine what investments to put the savings in. This is best done in consultation with an experienced financial planner.

If one has an early start, then the best form of investment would be in listed shares. This form of investment is likely to return a higher yield than most other forms of investment. While the chosen investments are building up, it would be best to have these diversified rather than concentrated on a handful.

A popular route to take therefore is to invest in growth stocks through unit trusts or investment-linked insurance during the earlier career years for a faster build-up of capital, then more and more in income-oriented stocks or funds and then locking in to good yielding bonds closer to retirement.

When sufficient capital has been built up, property investments may also be considered. In many cases, they do provide as good a yield if not better than shares but minus the liquidity and the safety in diversification.

There are various alternative investment structures and strategies to choose from and some of these are covered under investment planning.

Stay healthy

Finally, and this is important, although not normally covered in financial planning advice, resolve to stay healthy. Not simply choosing to stay healthy but taking active steps to do so, through proper diet and exercise. It makes absolute financial sense to stay healthy - what takes years to build could be wiped out by one medical event.

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1.

How early should I start to plan for my retirement?

A:

Ideally, as soon as you start work.

2.

Isn't EPF enough for my retirement?

A:

That should be considered the minimum. Without additional savings, calculations show that income generated from the retirement fund may not be sufficient to cover all living costs and as a result, capital gets eaten away each year after retirement.

3.

Why is EPF savings advantageous?

A:

It is advantageous compared to other investments because earnings from EPF savings and contributions by the employer are tax free. So where the employer's contribution is higher than the statutory rate, this is a better benefit than the equivalent paid for most other benefits.

4.

Why can't I buy an annuity product to cater for my retirement needs?

A:

There are no true annuity products (where a pre-agreed income is guaranteed for life) available in the Malaysian market currently. The annuity income is not tax-exempt in this country, unlike in some overseas markets. The ones previously allowed through EPF drawings were discontinued some years back and have not been revived.

5.

Should I leave my savings with EPF or take these out after I reach 55?

A:

EPF allows you the option to withdraw all upon reaching 55 or leave the savings with EPF and withdraw monthly amounts until the savings are depleted or for up to five years and then withdrawing the balance at the end. EPF's latest dividend rate is 5.15% p.a. Since this is tax free, it equates to a gross yield of 7.25% p.a. If you believe that you can earn a better yield than what EPF pays as dividend, without added risk, then you would choose to withdraw the whole amount out but if you believe that the yield from EPF is as good as it gets, then you would choose to leave the balance and withdraw by monthly amounts.

6.

How do I know if my current savings plan for retirement will be adequate when the time comes?

A:

Test it out using WealthBox.

Approaches: Wealth Planning > Children Education Planning >>