Personal retirement planning is often an intense challenge for loving parents with young children. Their key problem is balancing current lifestyle needs (and wants) against vital long-term future goals like retirement and children’s university education funding.

Even those with hefty incomes face this problem. Here’s a case study involving Charles and Claire – successful professionals and the doting parents of 5-year-old Cherry and 3-year-old Chester. Charles and Claire enjoy a combined net monthly income of RM15,000, which is several times that of the average Malaysian household.

Claire, who brings in a third of their total income, has been toying with the idea of quitting her job to raise Cherry and Chester fulltime. While Charles is supportive, he suggests they meet with a financial planner to discuss their long-term goals and to see if their tentative plan of having Claire quit her job at the end of 2007 is viable.

They set up a series of meetings with a reputable Securities Commission-licensed financial planner. After their third meeting, they ironically find themselves relieved and stressed!

They’re relieved because they have a much better sense of what they need to achieve if they are to retire comfortably and to educate their children in the ambitious manner they’ve always dreamed of. They’re stressed because hard numbers don’t lie. They face the fundamental choices of having Claire continue to work or of dramatically scaling back their retirement and education funding plans.

In their initial meeting with the financial planner, they were asked to list all key financial goals and dreams. They came up with items ranging from the prosaic to the extraordinary, including retiring well, educating their children abroad, travelling abroad each year, buying a mansion with a swimming pool, and owning a Ferrari.

Then, when the financial planner asked them to select the essential, non-negotiable goals, Charles and Claire settled on retiring well and educating their kids abroad.

(Note: Wong Boon Choy, treasurer and founding member of the Financial Planning Association of Malaysia, explains, “If funds are limited, we have to face the harsh reality of revisiting goals that may have been set earlier.”)

Charles and Claire initially set the education goal as their number one priority and relegated retirement to number two. But their financial planner explained that in the decades ahead our entrenched philosophy of Asian filial piety may give way to more Western ways of thinking; also, the economic climate prevailing three or four decades from now may make it impossible for even the most caringly nurtured children to fund their parents’ retirement while paying for their own needs and saving for the next generation’s education!

(Note: Even financial planners who are comfortable with parents putting their children’s education ahead of their retirement advise caution. Alfred Sek, CEO of Standard Financial Planner explains, “A common mistake parents make is overlooking their own retirement plan while planning for their children’s education. As a financial adviser, I would not recommend they put their future retirement plans in the hands of their children.”

If in later decades children are unable or unwilling to provide retirement funding for aged parents who haven’t taken care of their own retirement needs, tragedy can ensue. Wong, an SC-licensed financial planner and CEO of unit trust management company MAAKL MUTUAL, says, “People usually have two choices then: To reduce their annual expenses in retirement or to delay the start of retirement by continuing to work.” Taking the time to run appropriate analysis will help them figure out possible future courses of action. Wong warns grimly, “Someone planning his retirement should think now, ahead of time, of the key difference between eventually being considered an ‘old man’ and an ‘elderly gentleman’ – the amount of money he possesses!”)

So you’ll be relieved to learn Charles decides their appropriate number one financial priority should be retirement funding. Chart 1 shows the suggested funding path toward that goal.

Chart 1: Charles and Claire’s Retirement Funding Plan

 

Source: MAAKL MUTUAL Bhd’s MAAKL Planners software

The analysis yielding that solution was based on 12 assumptions:

  1. Although they earn RM15,000 a month in net income, Charles and Claire are willing to settle for a RM4,000 (in 2007 terms) a month lifestyle throughout their long projected retirement period.
  2. Charles and Claire assume, at least at this stage of their analysis, that they will both continue working until they turn 60. As they’re both 35 now, they have 25 more years before retirement begins. 
  3. They assume they will live until 2056, just before both turn 85. So, they’ll spend a projected 25 years in retirement.
  4. Between now, 2007, and the year they retire, 2032, inflation (meaning their personal average inflation rate as opposed to the official CPI rate) runs at an average of 4% a year. (By their first year of retirement, it will cost RM127,961 in future 2032 ringgit terms to afford a RM48,000 a year lifestyle in 2007.)
  5. To generate the required savings and investment growth, we will assume they utilise bank fixed deposits and unit trusts encompassing money market funds, bond funds, domestic equity funds and international equity and property funds. It seems likely if such a well diversified pre-retirement portfolio is regularly and intelligently rebalanced, it should yield an average compounded growth rate (CAGR) of 8%. 
  6. We certainly don’t assume they will retire at the current 55 or 56 official retirement age because with lengthening lifespans it is a certainty that conventional retirement ages will creep up by perhaps two years for every decade we move into the future. Once they stop working at 60, all active income inflow ceases. Then their ability to stomach investment risk will fall. The rational thing to do then is to restructure their portfolio to lower its inherent volatility. This should yield lower, but more stable, returns. In specific terms, both their equity and international exposure will be reduced while their fixed deposit, money market and bond weightings will rise. Their new target compounded annualised growth rate (CAGR) is assumed here to be 6%.
  7. Throughout their anticipated retirement period of 25 years, medical expenses will become increasingly important. Specific inflation affecting medical treatment tends to run higher than general inflation. So, we’ll assume their retirement inflation runs at 5% a year.
  8. Taking all those points into consideration, we find based on the software used to carry out our analysis that just over RM 2.8 million is needed to fund their joint retirement, using a capital liquidation method. Note: Their joint EPF savings at 55 may grow to more than RM700,000; as this amount is NOT taken into account in this analysis it can be used as a massive cash cushion to make achieving this goal and that of educating both children abroad more likely.
  9. As we assumed earlier that Charles and Claire will earn an 8% yield on their portfolio, obviously they will require a lot less than RM2.8 million today. Calculating this smaller number is the mirror image of conventional compounding, which causes money to grow when we move from the present to the future. Instead, we discount that large future sum back to the present by 8% a year and discover a much smaller total theoretical sum of personal savings today is needed to reach our future goal of RM2.8 million. That currently ‘needed’ sum is RM413,926 in 2007 ringgit.
  10. They don’t have that much. We’ll assume they have a total of RM30,000 today in savings that can be committed to initiating both their retirement funding programme and their kids’ tertiary education plan. Because their number one goal is retirement funding, we’ll further assume they choose to allocate RM20,000 of their RM30,000 available cash toward starting the retirement programme. (Charts 2, 3 and 4 outline the specifics of the tertiary education programmes; they show RM5,000 is set aside to begin each child’s university funding portfolio.) Charles and Claire also opt to take advantage of the excellent EPF Members Investment Scheme to use a portion of the money in their respective EPF Account 1s to augment their initial investment. We’ll assume a total of RM12,000 can be utilised from both Charles’ and Claire’s EPF accounts for this purpose.
  11. So, their present day shortfall for the entire retirement funding programme is RM413,926 minus RM20,000 minus RM12,000 or RM381,926. The retirement planning software used for this analysis indicates an annual investment of RM35,778 will make up for the RM381,926 initial sum shortfall.
  12. It appears as though Charles and Claire need to channel about RM3,000 a month – on average between now and when they retire – to meet their retirement funding needs. Since they currently earn a whopping RM15,000 a month, it seems they can either enjoy a RM12,000 a month lifestyle and meet their retirement savings requirement or Claire can quit her job to spend time with the children if they settle for a RM7,000 a month lifestyle, since she presently brings in RM5,000 in net income each month. Unfortunately, neither conclusion is correct…

Remember Charles and Claire don’t just have one important financial goal, they have two (or three, if we count each child’s education funding requirement as a separate goal).

Charts 2 and 3 outline the analyses for Cherry, who is now 5, to be able to study in the UK for a 3-year honours degree, and for Chester, 3, to study in the US for a 4-year honours degree.

Chart 2: Charles and Claire’s Education Funding Plan for their first child Cherry

 

Source: MAAKL MUTUAL Bhd’s MAAKL Planners software

Chart 3: Charles and Claire’s Education Funding Plan for their second child Chester

Source: MAAKL MUTUAL Bhd’s MAAKL Planners software

Chart 4: Summary of Charles and Claire’s Education Funding Plan cash outflows for both their children from 2020 to 2025

Source: MAAKL MUTUAL Bhd’s MAAKL Planners software

Assumptions made in the respective education analyses include anticipated exchange rates for the pound and the US dollar. (Here we’ve assumed the ringgit will continue to track sterling at about RM7 = 1 pound, but that the greenback will continue to weaken on the back of seemingly irreversible US trade deficits and thus average RM3 = US1 between 2022 and 2025.) These are at best mere guesstimates! Obviously, there is no way of knowing what the true future tuition and living costs will be, but the purpose of such analyses is to provide at least a logical framework for long-term planning.

Financial planning itself includes but goes beyond wealth accumulation initiatives. According to Securities Commission-licensed financial planner Rajen Devadason, “Financial planning also includes wealth protection using insurance and the power of asset diversification, and wealth distribution using wills and trusts.”

With regard to caring for young children, Ong Eu Jin, chief operating officer and director of OSK Trustees, explains, “Education planning for couples with young children is never complete without addressing the ‘what ifs’ and the worst case scenarios.” Ong believes each adult should write a will. He goes on to say, “Parents with minor children should consider creating a testamentary trust under their will.” Such a trust comes into effect upon the demise of the testator, the person whose will it is, and can be structured to protect the goals and aspirations of loving parents who recognise the possibility of their not living long enough to see their children graduate. (We will take a closer look at this important facet of financial planning in an upcoming article.)

Returning to our case study, it’s clear Charles and Claire’s current goal of setting aside enough money to educate their two children in the UK and the US necessitates saving and investing about RM5,400 a month.

Once we add that sum to the RM3,000 a month Charles and Claire need to set aside for their primary goal of retiring well, we see their initially sizable net income of RM15,000 a month doesn’t appear that large.

Retirement funding specialist Devadason says ruefully, “I often sound like a broken record when I repeatedly urge my clients to aim to move up toward a long-term targeted savings rate of 40% to 50% of their net income.” He adds, “Number crunching exercises like these aren’t meant to depress people but to drive home the reality of our need as a nation to consume less and to save and invest more – much more.”