Important Aspects of Financial Planning

Financial planning aims at ensuring that a household has adequate income or resources to meet current and future expenses and needs. Financial planning is a process that enables better management of personal finances. Wealth Managers enable a household to manage its personal finances efficiently in line with their short-term and long-term objectives.

Personal financial analysis: One needs to make an estimate of following:

  • Income & Expenses
  • Assets & Liabilities
  • Sources of Income and its stability
  • Growth in Income

Current income needs to be apportioned to current expenses and to savings for the future. Financial planning needs to secure the household’s lifestyle and fund its aspirations. If current income is saved properly, assets can be built with these savings, these assets generate income in the future, and can be sold to fund a future goal as well.

Goal Defining: It is important to define financial goals. Financial goals involve defining in what timeframe what is to be achieved. They may be short term or long term. A typical short-term goal maybe buying a car, buying a house or an international holiday, etc. Long term goals could be child’s education, child’s marriage or retirement planning. Depending on the goal, risk profile and age at the time of defining, one is able to do further goal based financial planning.

Debt Counselling: Everyone needs to plan liabilities efficiently. It is common for households to borrow in order to fund their homes, cars and durables. Several households also use credit cards extensively. To borrow is to use tomorrow’s income today. The asset being funded by borrowing may be an appreciating asset such as property, which is also capable of generating rental income or the loan could be funding a depreciating asset such as a car, which may require additional expenses on fuel and maintenance, but provide better lifestyle and commuting convenience. A house bought for self-use does not constitute an asset since one cannot sell it when required, rather it may entail expenses on maintenance, EMI, etc.

Insurance Planning: Insurance is a risk transfer mechanism where a small premium payment can result in payments from the insurance company to tide over risks from unexpected events. The temporary loss of income from disabilities and permanent loss of income from death can be covered with life insurance products. Health and accident insurance cover helps in dealing with unexpected events that can impair the income of a household.

Insurance planning involves estimating the losses to the household from unexpected events and choosing the right products and amounts to cover such events.

Investment Planning and Asset Allocation: A crucial component in financial planning is the funding of financial goals of a household. It involves estimating the ability of the household to save and choose the right assets in which such savings should be invested, based on the purpose and financial goals. A plan to save for the goal requires appropriate asset allocation. The focus is on how much money is invested in which particular asset class in order to deliver the expected return within the risk preference of the investor.

Tax Planning: Income is subject to tax and the amount a household can save, the return they earn on their investment and therefore the corpus they are able to build for their future goals, are all impacted by the tax regime they fall under. The post-tax return of financial products will have to be considered while choosing products and estimating holding periods. Tax is an expense which impacts savings. Any savings in tax can make huge difference in goal achievement.

Retirement Planning: Providing for retirement is one of the primary financial goals that all people must plan for. Many people tend to ignore it until it may be too late thereby compromising the quality of their retirement. To be able to plan for retirement it is important to understand the concept of time value of money and inflation and how it would impact the quantum of expenses in the future. Saving and investing for retirement requires understanding of how compounding benefits investors saving for long-term goals. An investor who starts early is able to achieve the goal more comfortably.

Estate Planning: Wealth is passed on across generations. This process of inter-generational

transfer not only involves legal aspects with respect to entitlements under personal law, but also documentation and processes that will enable a smooth transition of wealth in a tax-efficient way. It must ensure that the method is tax efficient, flexible, and legally sound.

Where to Allocate fund: One cannot have investments in single asset class. Each asset class has its utility. For liquidity one needs liquid or money market funds. For risk coverage one needs term insurance plan and health insurance. For long term goals one needs a product which can beat inflation. Equity, historically, is the only asset class which can beat inflation and help achieve financial goals. What is needed is right selection, regular investment and disciplined investing. This can be achieved through mutual funds which are managed by experts, there is total transparency and tax efficiency. A typical asset allocation of financial savings after providing insurance could be as under:

Asset/ Type of InvestorConservativeModerateAggressive  
Short term Debt/Fixed deposit/liquid fund20%10%5%
Long term debt/Bonds60%40%15%
Large cap equity20%35%55%
Mid cap equity0%15%25%

Mutual funds are a product which are designed to help facilitate investments in a systematic, disciplined and professional manner. Appropriate scheme selection along with regular investments can help in achieving one’s goals. Systematic Investment Plan in equity mutual fund is one way to help investing in a planned way by periodically saving as you earn.

A simple example of power of compounding and systematic investment is as under:

Investment per month: Rs. 10000

Starting age                  : 35 year

Retirement age            : 55 years

Expected Return          : 12% pa

Corpus at 55 year: Rs. 98,92,533

This can be through do it yourself platform or by taking the help of an investment advisor just as you have family doctor for your medical needs.

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