Financial planning is an activity to plan your income, expenses, and investments to build an optimal corpus that would fulfill your dreams that can be fulfilled via financial means, also called financial goals.
Be it about making sure that our children have the best education possible, to have enough for medical emergencies, to have a house of our own, or simply, that vacation that you have always wanted to take. These dreams remain dreams, unless we sit down and admit that these are goals, and understand achieving them needs planning.
Benefits Of Early Financial Planning
The moment you start earning is a good time to become financially responsible. It helps you achieve a few financial milestones:
To Develop A Habit
When you take control of your finances from an earlier age and start planning them, you can develop the habit of financial planning early on. This habit, later, helps you manage your finances better and create savings for your goals effectively.
To Save Affordably
One of the reasons why people don’t manage to save enough for financial goals is because they start much later in their lives. When you start late, you have to save higher amounts regularly to build up the desired amount. However, increased responsibilities and mounting expenses do not permit you to save a high amount of money and ultimately, your savings fall short of the mark.
Contrary to this, when you start saving early, you can save small and affordable amounts and create the amount needed. Moreover, when you are young, you have limited responsibilities and higher disposable income.
To Benefit From The Power of Compounding
The very savings you do accrues returns, which makes the savings amount bigger, which in turn accrues more, and so on. This compounding of returns works in your favour when you give your investments time to grow. When you start investing early, you can invest for a longer tenure. This investment tenure allows the compounding factor to multiply your returns exponentially.
For instance, let’s consider you invest INR 10,000 every month and the risk-free rate of return is 7% per annum. The targeted age at which you would need the invested corpus is 45 years.
Now, if you start investing from when you are 25 years old, the corpus accumulated at 45 years would be approximately INR 52.09 lakh. However, if you start investing at 30 years of age, the corpus would reduce to INR 31.79 lakh. So for compounding to work, you need to give your investments as much time as possible and that time is available only when you start early.
To Help Manage Taxes
The government helps you put your savings to use more effectively via avenues that help you save taxes on your income.
For example, Section 80C of the Income Tax Act, 1961, allows you to claim a deduction of up to INR 1.5 lakh from your taxable income. Similarly, if you buy a tax-saving health insurance plan, you can save taxes under Section 80D.
When you are aware of how you can allocate your money in a tax-efficient manner, you would be able to save tax and increase your disposable income.
How to Align Your Goals to Your Financial Plan?
This process is simple and just needs you to understand your requirements. Your goal-alignment checklist can look like this:
- List down your financial goals, preferably in order of their priority.
- List down the horizon against each goal.
- Estimate the amount that would be needed to fulfill each goal.
- Aggregate the total amount needed.
- Deduct your existing assets and investments from the aggregated amount to find out the corpus that you need to create.
Create A Fund
Ideally, you should create a separate and earmarked fund for each goal. Each “fund” would have a different timeline, importance, and a different risk profile and each of your needs should be thought through, prioritized, and then worked on.
For instance, if you are looking at higher education for your daughter, who is now 10 years old, you need to plan out basic costs associated with your expectations like a degree from a foreign college from a certain country and so on. Part of this money could be available with you now and part could be earmarked as savings for her.
Similarly, to meet your goal of buying a house, you may need to decide when, how, and where you would buy the property, and how much would it cost you.
Have an Emergency Corpus
Creating an emergency corpus is important so that if you hit a rough patch you can dip into your emergency corpus rather than your goal-marked funds for tiding over the crisis. Set aside at least 6 months’ worth of your income in an emergency fund which can be used for emergencies.
Moreover, invest the emergency fund in a liquid avenue, like a savings account or liquid mutual funds, so that they can earn returns till they lie idle and they can be accessed instantly when needed.
Save and Invest Regularly
Just listing down your goals and creating a fund for them is not enough to align your goals to your financial plan. You need to save for your goals too. So, make investment a regular habit.
- Every month, when you get your salary or earn an income, first save, then spend.
- Work out your disposable income and then invest this income in different avenues depending on the horizon of your goals and your risk appetite.
- The benefit of investing early can be reaped only when you save and invest regularly.
- If you make erratic investments, your funds would always fall short of meeting your goals. Avoid this possibility and inculcate the habit of saving.
Prioritize Your Goals
Short-term goals should be met first. So, target your investments into funds created for your short-term goals first. Then, stagger your investments over other goals in ascending order.
For example, if you want to buy a car in the next two years, a house in the next 4-5 years and create a fund for your child who is 5-years old, investing in the car fund should take priority, followed by the home fund and then the child fund. So, prioritize your goals to save towards them in a planned manner.
Prioritizing would also help determine your risk appetite. For short-term goals, you cannot afford risky investment avenues as you need to preserve the capital for fulfilling such goals. However, if the goals are long-term, you can have a healthy risk appetite and gain from market-linked investments.
So, set the timeline for your goals such that they can be aligned with your financial plan and understand why you should invest early.
