Retirement Planning: Transition and Distribution Phase

In our previous article on retirement planning, Retirement Planning: Accumulation Phase, we discussed that there are three phases of retirement planning – Accumulation, Transition and Distribution. The accumulation phase begins when you start your working life and continues till the mid stage of your career. The transition or pre-retirement phase covers the late stage of your career till retirement. The distribution phase begins with your retirement and spans the rest of your life. In this article we will discuss about the transition and distribution phases of retirement planning.

Transition Phase

This phase typically begins 10 years before retirement. You would now be at or near the peak of your career. Your income is likely to significantly higher than what you were earning at the early stages of your working life. However, there may be big expenses on the cards, as important life-stage goals like children’s higher education, children’s marriage etc, coincide with this phase of life. You will have to balance multiple priorities and yet remain, focused on all your financial goals as retirement draws nearer.

Points to consider in the transition phase

• Since your income is near peak levels of your career, you should try to maximize your savings. Try to increase your Systematic Investment Plan (SIP) or opt for SIP Top-up investments, so that you can accumulate a larger retirement corpus or reach your retirement goal earlier.


• You should be debt free by this stage of life. If have outstanding debt, try to pay it off so that you can increase your investible surplus. Remember debt has an interest cost associated with it, which reduces your investible surplus.


• Do not compromise on your retirement planning goal for the sake of other goals. Plan carefully and manage your expenses judiciously, so that you do not have to compromise on any goal. However, if required, you should be ready to scale down your spending on big ticket expenses e.g., go for a less expensive car upgrade, home improvement, children’s marriage etc.


• You can take loans for other goals, e.g., take a loan for your children’s higher education, which your children can pay off when they start working.


• Since your risk profile would have changed by this stage of life, you should focus on asset allocation. Your risk profile will depend on your age, income, expenses, asset, and liabilities. You should consult with your financial advisor if you need help in understanding your risk appetite.


• Though there are no hard and fast rules for asset allocation, a popular asset allocation rule is the “Rule of 100”. As per “Rule of 100”, your equity allocation should be 100 minus your age. However, this can change depending on your financial situation. For example, you will receive pension or have rental income from your property, you can go for higher equity allocations. Consult with your financial advisor if you need help in determining your target asset allocation.


• While equity and fixed income are the two major asset classes, you may also consider other asset classes e.g., gold, international equities etc in your investment portfolio. Historical returns data show that different asset classes have low correlations of returns. Having multiple asset classes in your investment portfolio may provide richer diversification and greater stability to your investment portfolio.


• Different asset classes have different investment cycles. For example, in bull market equity returns will be much higher than fixed income. If you do not rebalance your asset allocation regularly, then over a period, your asset allocation may get skewed towards certain asset classes. You should rebalance your portfolio at regular intervals to ensure that your asset allocation is aligned with your risk profile.


• Tax planning is also important at this stage of life. Since you are reaching important life-stage goals in the transition phase, you should ensure that your withdrawals are tax efficient.

It is important to have clarity on retirement goal objectives (both timeline and target corpus), when you get into the transition phase. Also, by this phase your expenses would have increased compared to earlier stages of your career. Your retirement corpus should be sufficiently large to enable you maintain your lifestyle after retirement. Aditya Birla Sun Life Mutual Fund’s Retirement Calculator will help you determine, whether you are on track of your retirement and how much additional monthly savings you need to have if you are falling short.

Distribution Phase

This is post-retirement phase in your retirement planning journey. If you had planned well and exercise strict discipline in accumulation and transition phase, then these would be the golden years of your life. Since you do not have income from your profession in this stage of life, you will be dependent on the income from your investments to meet all your expenses. As a result, your risk profile will be very different in this stage of life.

Points to consider in the distribution phase

• Regular income (cash-flows) and portfolio stability (low volatility) are the two main investment objectives in the distribution phase.


• Your asset allocation should be aligned with the above objectives. Majority of your asset allocation should be in fixed income assets, which can generate income. Mutual funds provide a range of fixed income solutions for different duration and credit quality profiles. Select funds according to your investment needs and risk appetite; consult with your financial advisor or mutual fund distributor if you need any help.


• However inflation is a reality, which you cannot ignore since your expenses will keep growing. Therefore, your investments also need to grow, so that your withdrawals can also increase with inflation.


• Historical data shows that equity as an asset class can beat inflation over long investment horizon. You should have some allocation to equity even in the distribution phase. You should consult your financial advisor to determine how much allocation you should have to equity in your investment portfolio.


• Mutual funds provide a variety of tax efficient asset allocation solutions like hybrid funds, fund of funds etc, for different risk profiles (e.g., aggressive hybrid funds, balanced advantage funds, multi asset allocation funds, equity savings funds, conservative hybrid funds etc). Your financial advisor or mutual fund distributor can help you select suitable funds based on your risk appetite and investment needs.


• Mutual funds also provide convenient and tax efficient cash-flow solutions like Systematic Withdrawal Plan (SWP). Through SWP you can get fixed cash-flows every month (or other intervals based on your needs). SWP generates cash-flows by redeeming units of your mutual fund scheme(s). The balance units remain invested and grow over time based on Net Asset Value (NAV) growth.


• SWP from equity or hybrid funds are much more tax efficient than interest or dividend income for investors in higher tax brackets. While interest from bank FDs or dividends are added to your income and taxed as per your income tax rate, SWP withdrawals are subject to capital gains tax. Long term capital gains from equity or equity-oriented hybrid funds (average equity allocation of more than 65%) are tax exempt up to Rs 1.25 lakhs per year and taxed at 12.5% thereafter. Long term capital gains from hybrid funds or funds of funds, where equity allocation is between 35 to 65%, are taxed at 12.5%. (Source: Budget Speech 2024-25. Annexure to Part B, Amendments relating to Direct Taxes, Section C.4)


• While the focus of our article has been on financial independence and security, your and your dependents’ health are equally, if not more important. Since health risks increase with advancing age, you should ensure that you have sufficient health insurance cover to meet hospitalization and associated expenses arising out of medical emergencies.

Conclusion

In India, a small percentage of retired people have a source of passive income, other than their savings, e.g., pension, rental income etc. For most retirees, accumulated savings is the main source of income after retirement. In this two-part series, we have discussed about retirement planning. With financial planning from early stages of your career, you can enjoy financial security and stress-free retired life. Ask your financial advisor about retirement planning and start investing now for a happy and fulfilling retired live.

Disclaimer:

The details related to tax benefits are general information only. Investors are advised that before investing, consult their Tax Consultant or Financial Advisor to determine tax benefits applicable to them.

An Investor education and Awareness initiative of Aditya Birla Sun Life Mutual Fund.

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