Set realistic goals, improve cash flow

Prerana Salaskar

Shivshankar Surushe is a 32-year-old executive with adependant wife and an infant child. They live in their house, on which there is a loan outstanding of Rs12 lakh.

Current situation

Net take-home salary Rs21,000 p.m.
Cash perquisites    Rs20,000 p.a
Current value of home Rs12,00,000
Loan installment     Rs12,000 p.m.
Monthly living expenses Rs7,500

Financial goals

• Purchase a bike in a year’s time
• Buy a motor car in three years
• Send his daughter, now aged 3 months, for medical education
  Retire at the age of 55

Achieving goals
Surushe’s income profile and financial goals do not match. Though the short-term goals could be taken care of, his medium- and long-term goals would either have to be pruned or the income augmented considerably.

1. Short-term goals
Considering a downpayment of Rs10,000 for the bike, Surushe could raise a loan for the remaining amount (say, Rs40,000) for 3 years. This would work out to an EMI of Rs1,290 for the next 3 years.

Currently, Surushe’s emergency fund amounts to the bank balance of Rs25,000, which he wants to further raise by Rs75,000. This Rs25,000 could be invested in a liquid fund, yielding 6% per annum, which will augment his income by Rs1,200 per year. If he were to keep aside a recurring deposit of Rs1,500 p.m. (@ 6% p.a.), it would take 4 years and 8 months to build this remaining emergency corpus.

Surushe is the sole earning member of the family. He has outstanding loans to the tune of Rs 12 lakh, with an asset backing of only Rs 3.6 lakh (excluding the house). In order to insulate his dependant family from any untoward eventuality, a home loan cover of the outstanding loan amount (Rs12 lakh) is strongly recommended. This would cost him Rs3,750 p.a.

Also strongly recommended is a mediclaim cover for the family (Rs1,200 p.a.).

Given his current situation, we also recommend that a strong foundation for family protection be built immediately in the form of an insurance policy with a sum assured of Rs10 lakh (Rs3,000 p.a.)

2. Medium-term goals
Considering Surushe’s present income status (a surplus of Rs500 per month), his medium-term goal of buying a car with present value of Rs4 lakh 3 years hence (future value Rs4,63,050) needs to be suitably pruned. Keeping in mind the nuclear size of the family, one could consider an entry-level car.

Surushe needs to also consider that a car needs fuel and maintenance charges, which would be a further strain on his finances. Considering an interest rate of 10%, the EMI would amount to Rs3,400 p.m. for the purchase (for a car loan of up to Rs1,60,000).

3. Long-term goals
Surushe’s retirement at 55 would need him to save Rs2,63,755 p.a. (Rs21,980 p.m.) for the next 23 years, provided he invests this amount in a portfolio that would yield 15% p.a. These figures are based on the present expenses for his wife and himself (Rs90,000) p.a. and also a medical emergency corpus of Rs10 lakh. The money going into his provident fund will be counted towards his debt investment.

Sending his daughter for medical education would need a corpus of Rs49,27,000 at the end of 17 years, based on an inflation rate of 5% p.a. The cost of medical education at current value stands at Rs4.75 lakh per annum for 4 years .

Since this is a long-term goal, we would recommend investment in an aggressive portfolio that yields a CAGR of 15% to build up this corpus.

At the beginning of the 18th year, we recommend redeeming the corpus amount from equities and investing the surplus (fees for the remaining 3 years) into safe instruments like liquid funds or floating funds, or arbitrage funds. Considering this, he would need to put aside Rs75,700 p.a. (Rs6,300 p.m.) for this for the next 17 years.

Recommended cash flow
Ideally, the emergency fund should be created as soon as possible. Also it should cover at least 6 months’ expenditure (say Rs25,000 x 6) less Rs25,000 already available. The Rs 1.5 lakh corpus could be created over three years and invested in a liquid fund, dividend reinvestment option.

To live up to all his aspirations, Surushe is advised to do a major overhaul of current revenue generation. Currently, he is short of Rs30,755 per month. This includes the recommended insurance premiums as well as his medium- and long-term goals. Even if he were to only consider the mandatory goal of retirement, he would still fall short of Rs20,000 p.m., considering his present expenses and projected medical cost for a life span of 90 years.

We would also like him to look realistically at his retirement age. We would recommend a retirement age of a minimum of 60 years and maybe a part-time job to supplement his income post-retirement, given the current financial situation.

The planning process is a long-drawn one and needs to be revisited every year to take into account changes taking place in the current situation. A sudden boost to Surushe’s earnings could change our view on his planning entirely.

At the age of 32, Surushe’s savings are marginal (Rs3.6 lakh). We recommend that he actively look at investments in equities for his long-term goals, considering that over the long term, the risk associated with equities is considerably reduced.

But, first, he needs to actively augment his source of income. We suggest the following alternatives:

Actively look at increasing the take-home salary through a new job or better his present job prospects through an additional educational degree, may be through a correspondence course

Consider a supplementary source of income like a part-time or weekend job.

If his wife is suitably qualified, she should be encouraged to take up a job in the next 6 months

The writer is a certified financial planner and partner, The Tipping Point, Mumbai. Views are personal and do not necessarily represent those of FPSB India. Feedback may be mailed to myplan@fpsbindia.org.