FINANCIAL PLANNING-SOME TIPS

I am dropping the words 'FOR BEGINNERS' from the title as anybody who has read my post "FINANCIAL PLANNING FOR BEGINNERS" is no longer a beginner-he has graduated a step already. As I had said in my earlier post I have not studied financial subjects at any point of time. Whatever I know about making money has been picked up on the street. As it has worked for me, my desire is to share it with others so as to give them a head start.

Among the various debt instrument available, I have found the Bank Fixed Deposits[FDs] as the most suited in today's times. Money does not like to be lazy. It is at its best when working, working and more working. To provide this enviorment one has to find a suitable instrument with multi-tasking capabilities. When multi-tasking is the mantra, FDs preform multi-functions like:

1. FDs can be built at ones own pace. Every FD should have the OD facility attached.
2. Once a respectable portfolio is built, 'money' can be put to work.
3. Idealy bank accounts should never have a credit balance. Money goes to sleep in such accounts. Power of OD comes into play when bank accounts have negative balance.
   
4. Main role of OD on FDs is to make available funds in an emergency. Rs 50000/- is available like your own money[as per assumptions below Rs 80000-Rs30000].
5. They act as a safety net for all loans taken.
   
6. To demonstrate the power of OD we make some assumptions- Monthly salary Rs 25000/-. OD limit on FD Rs 80000/-. FD rate of interest 9%. Current credit balance Rs 1000/-. Out of the OD limit make a FD of Rs 30000/- at 9%, this will create a negative balance of [Rs 30000-Rs 1000] Rs 29000/-. On Rs 29000/- the bank will start charging you interest of 11.5%[9+2.5].
7. On salary day the negative balance automatically gets reduced to Rs 4000[Rs29000-Rs25000]. This means the bank now charges 11.5% interest on Rs 4000/-, interest saved is interest earned. Your SB account is in effect earning you 11.5% on the salary amount deposited. All expenses / purchases do not happen on day one nor in one shot, but are spread over a period of days. Your money is happy working hard to earn money[interest] for this period of days. This process gets repeated month after month.
   
8. Stop using Debit cards and make all payments by credit cards only. The advantage would be clubbing of all entries and one payment on the due date. This means effectively your salary remains in your account for longer duration thereby keeping the negative balance low [interest saved is interest earned and rewards points on the card are bonus].
9. All FD interest should be redeemed on quarterly basis and deposited in the account which has OD facility. This interest will also help to keep the negative balance low.
   
10. You will be surprised on how fast the negative balance will get wiped out from the small small amounts earned by your 'money'. Repeat the process of creating negative balance by making fresh FDs and once that target is met start investment in equity.
    

From among the equity instruments available, I prefer Mutual Funds [MF] to direct investment in shares. Of course shares give far higher returns than MF because the risk of loss is far greater. The reason is quite simple- your money is resting on the fortunes of one company say like Satyam, very few would be able to exit at the right time. Your involvement with shares would have to be higher than with MF. In MF a fund manager is taking care of your investment and you can stay invested if you like his results or switch to another fund if you don't.

Personally I prefer equity based fund as my monthly expenses are not coming out of this investment. The 30% annualised returns my investment in MF gave me was more money than I had during my entire service career. I recommend the same to youngsters as they would be needing this money after a few years.

My advice is that property should be purchased only when your returns from investments in MF can pay the EMI of the property. You will reach the target of being a HNI much faster. Even after the EMI gets paid off, returns from this investment continues.

MF can be purchased in lump sum or under SIP [systematic investment plan], for salaried persons SIP would be better. When ever you get bonus or lump sum amount, the same can be invested lump sum in funds which are under SIP or otherwise.

MF are available with growth or dividend options. You should have a mix of both. Senior Citizens should opt for dividend option in 80% of the funds while youngsters 20% [up to a level where the EMI amount, when started, gets paid from dividend income]. It is financially beneficial to pay rent.

Under dividend option again one can take reinvest or payout option. Reinvest option gives you the choice to redeem the dividend reinvested units when the actual need arises, otherwise they add to the units you own in normal course. The advantage is that the NAV keeps growing during the period you did not need the money, hence you get more money when you redeem than you would have got by depositing it in the bank account under payout option in the first place.