Column

For over two years now, I have been sharing with readers various concepts and principles of tax and money management through this column. The basic idea is that while a major part of our life is devoted to earning a living, prudent financial planning will ensure that the money earned is appropriately conserved, earmarked and spread over the time span of one’s needs.

To some, financial planning may sound esoteric. However, it is nothing but arranging your finances in the light of your future goals. A goal-oriented approach almost certainly ensures that you achieve your objectives without having to compromise on your standard of living or in the worst case, some of the goals themselves. Therefore, the thing to do is to put everything down on paper, in terms of cold numbers. This way, you have graduated from having a hazy idea about your requirement to being fully seized with at least a broad ballpark figure. Also, quantifying helps make the picture clearer by removing any subjectivity.

Let’s take the example of a typical family to see how financial planning can help them meet their objectives.

Helping the Mehtas do better
Let us take the case of the Mehta family. Mr Mehta is 42 years old and works as a senior manager in a pharmaceutical company. His wife is a homemaker. They are the proud parents of a lovely 13-year-old daughter who they have aptly named Khushi. Mr Mehta’s mother lives with them. He earns Rs 75,000 per month and after catering for household and other expenses as also the EMI for their house, the family manages to save around Rs 30,000 per month. Mr Mehta has Rs 3 lakh in his Public Provident Fund (PPF) account, which is maturing in 2011 and the couple have over time purchased shares that are currently approximately worth Rs 2 lakh. They also have around Rs 1 lakh invested in mutual funds as a lump sum and out of their savings, they are about to start a systematic investment plan (SIP) of Rs 10,000. As for insurance cover, Mr Mehta pays a premium of Rs 55,000 p.a. for a cover of Rs 5 lakh. Lastly, his provident fund (PF) balance is Rs 5.10 lakh with the monthly PF deduction (equally matched by the employer) being around Rs 6,000 per month. Given this background, their key goals are to provide for the education and marriage of their daughter. They estimate that they would like to keep aside over Rs 14 lakh for Khushi’s higher education. They are also concerned about the requirement of gold for her wedding. Of course, last but not the least, on the agenda is providing for retirement.

Read the Mehta family’s profile once again if you must for we are about to wear the hat of a financial planner and help them provide for their stated goals.

Before starting, we establish that the Mehtas save around Rs 30,000 per month out of which Rs 10,000 is already being applied for the SIP. We have to see how best they can put to use their existing investments as also the balance savings of Rs 20,000 per month.

1. Khushi’s education
Khushi is currently 13 years old. Her higher education needs would arise around the age of 21 years, i.e. eight years from now (around 2016).

In this regard, it is suggested that the Mehtas start a recurring deposit of Rs 6,000 per month. Part of the Rs 20,000 (after deducting the SIP amount of Rs 10,000 p.m.) monthly savings can be utilised for this purpose. This deposit should be opened in Mr Mehta’s mother’s name. Being a senior citizen, Mrs Mehta (Sr) would earn a higher interest of 10% p.a., which would be anyway completely tax-free taking into consideration the fact that she has no other income.

This investment of Rs 6,000 per month @10% p.a. over eight years would grow to Rs 8.75 lakh.

Additionally, Mr Mehta currently has Rs 3 lakh in his PPF account. It is suggested that he contribute the minimum amount of Rs 500 required to keep the account alive. The account matures in 2011. After that, it should be extended by five years such that it would mature in 2016. The maturity value of the PPF account would thus work out to Rs 5.15 lakh.

This way, by 2016, they would have a combined amount of around Rs 14 lakh (Rs 8.75 lakh + Rs 5.15 lakh) for meeting Khushi’s higher education needs.

2. Gold for Khushi’s marriage
Here, it is assumed that Khushi would be married at the age of 26 years. This means, there are 13 years to go for her marriage.

It is suggested that Mr Mehta buy 2 units (equivalent to 2 grams) of gold per month by investing in a gold exchange traded fund (ETF). Space constraints preclude a detailed discussion on ETFs but suffice it to say that it is one of the most efficient methods of buying gold whereby not only is the investor assured of the quality of the metal but also does not have to worry about storage and the risk of theft.

Two units per month over 156 months (13 years) works out to 312 grams or approximately 31 tolas.

The funds required for this (approximately Rs 3,000 per month) can come out of the balance monthly savings of Rs 14,000 per month (after accounting for the RD investment).