10 mistakes you should avoid while planning your finances

Financial planning is considered to be the base of your investing activity. You don't just start investing at random. You begin with the investment plan and then work backwards towards your investment strategy. However, quite often people tend to get their financial planning conceptually wrong. As a starting point, here are 10 critical mistakes to avoid.

Not having well defined goals

When you set your goals, remember that it is your plan for the next 30 years. So it has to be comprehensive. You don't want to create a financial plan and then realise that some critical goals have been missed out. So, it is important not only to define your goals thoroughly, but also to ensure that you have SIPs tagged to each goal. That is only possible if you have well defined goals.

Starting late

Ideally, you need to start the financial planning process the moment you start earning income. The earlier you start, the longer you have to invest for achieving your goals and thereby, the longer you have to create and nurture income-earning assets and investments. The longer you create assets, the longer the income on your assets creates further assets. This is the power of compounding.

Not reducing your debt

Once you create your financial plan your first step should be to reduce your debt, especially high-cost debt. If you are paying too many Equated Monthly Installments, then you are never likely to generate anything worthwhile to invest. Use any surplus money to reduce high cost debt, like credit cards and personal loans.

Not focusing on protection

You need protection at multiple levels. You need to insure your life and assets. Additionally, your liabilities should also be insured with term policies to ensure that you don't disrupt your plan just to save money. Adequate protection also improves your risk appetite.

Focusing too much on tax saving

Don't load your portfolio with endowments and Ulips for the sake of tax-saving benefits benefits. Keep insurance and investments separate. Tax saving is essential, but don't make that the theme of your financial plan. When you focus purely on reducing your tax burden, you tend to take financial planning decisions that are sub-optimal. You may save tax, but in the process miss out on other more relevant investment opportunities.

Underestimating inflation

While calculating the future cost of payables, don't be too conservative on inflation. Inflation is not just the government announced rate of inflation, but what we experience. For example, inflation in India may be currently around 4%, but it has been around 7% over the longer term. It is better to assume higher inflation. Certain expenses like higher education have gone up manifold. One should not end up with inadequate funds.

Overestimating returns on investment

Just because equities generated 18% last year does not mean that it will generate 18% for eternity. Debt funds outperform in certain years due to falling interest rates. Don't take them as benchmarks. When you overestimate investment returns, you tend to under invest and that is likely to result in lower corpus creation. Also remember that as markets mature, returns will automatically come down. Be conservative on your ROI estimates.

Ignoring budgeting and cost cutting

One of the best ways to save is to reduce your expenditure, at least the expenditure that you can dispense with. Most investors tend to expect that investments alone will take care of their financial needs. That is unlikely to happen if you continue to borrow, keep expanding your EMIs, rely on high cost debt or live an unnecessarily extravagant life.

Ignoring costs, fees and taxes

You need to ensure that you don't end up paying too much in the form of churning costs or Total Expense Ratio. Also ensure that the fees you pay to your financial advisor are proportionate to the benefits that you are deriving. Any investment decision is a tax trade-off. Short-term returns may look very attractive, but ensure that you make money net of taxes too.

Not monitoring your financial plan regularly

Creating and executing the plan is not the end of the process. You need to constantly monitor it. Set triggers on a regular basis. Review your plan broadly at least every quarter and thoroughly once in a year. Re-balance your financial plan at least once in three to four years, to ensure that your plan is in sync with your goals.

The writer is chief sales officer, Angel Broking