FINANCIAL PLANNING AND ROLE OF TAX SAVING

[Dr. Sanjiv Agarwal]

Financial planning

What is Financial Planning all about? Financial planning is a simple process that involves   planning of financial affairs so that one can achieve his/her economic goals. This involves having individual plans for various tenets of finances like savings, investments, taxes, post-retirement funds and estate.

In today's era, financial planning has become the corner stone of life itself. Everything today assumes significance in terms of finance. In the absence of any proper social security structure, everyone needs to have a financial back-up, which gives him/her a cushion against eventualities like a job loss or life cycle situation like retirement. Then, of course, you need financial planning to help you tackle inflation and taxes and finances for rainy season. One of the most important reasons for planning finances is that it allows one to reach a specific goal without having to compromise on his /her quality of living. By having a financial game plan, one automatically becomes more efficient  with his money. It also helps in imbibing a good habit of disciplined spending. Since one is working towards specific goals, he allocates his earnings systematically. Financial planning can help one achieve his/her goals leading to peace of mind.

Financial planning consists of a series of steps that starts with - Identification of goals-Identification of current financial situation- Identification of goals­ Identification of financial gaps- Preparation of personal financial plan- implementation of that plan and ends on periodically reviewing plan. A key concept in managing the finances is inflow vs. outflow. Essentially inflow is all the money you receive or generate while outflow is all the money you spend. The difference between the two is the amount of debt you are incurring or the amount of saving you are generating. While planning the finances, one needs to calculate the difference between these two numbers and see whether he/ she is accumulating money or some debt. If one is accumulating money and has excess left over, then this is the amount that he/ she should be investing. All investments involve some degree of risk, including the possible loss of money, however, making an informed decision to accept some risk also creates the opportunity for greater reward. This fundamental principle of investing is known as the risk/return tradeoff. Risk return trade off refers to the relation between the risk and the return element of a particular investment. However, it is believed that return is high when there is more risk. One works for maximizing his risk -return trade off. Risk ­return profile also changes with age profile of the investor. Given a defined risk, returns can be maximized through investment. Hence, "financial planning should be based on maths, not on emotions"

Investment planning

While investing your money, the amount of returns you want should depend on whether you want to eat well or sleep well.

Investment planning is nothing but managing the investments to attain optimum returns. It is the process of determining how to invest in assets, securities and future savings, based on financial goals and attitude of investor. We all love to get the highest possible returns on our investments. However, high returns could invite higher risk and vice versa.. What is not understood is that high risk can also translate into a situation of no return or even negative return. Let's understand how to plan investment so that more returns are generated while ensuring security.

Heard of Investment pyramid? One can use this concept to plan your investment. It is a time-tested concept that stacks up the most common instrument according to their returns. The base signifies greater stability and hence, lower returns. As you move up to the apex of the pyramid, the risks and returns increase.

Base:This is where all your security rests. It must house liquid investments, which gives low but predictable returns. Bank deposits and money market mutual funds qualify.

Middle: Though riskier than those at the base, these investments give that additional option to your portfolio. Based on your risk appetite, you could invest in debt and balanced mutual funds, the PPF, etc.

Summit: Retirement may seem far away, but it needs planning. The good news is that you are young enough to take more risk to reach there. So, this portion consists of high risk, high return investments such as equity, equity funds and real estate.

 

Factors that influence are investments are wealth creation, reduction of tax, future planning, investment avenues available and inflation. Risk, rate of return, tax benefit, marketability and liquidity are the attributes relevant for evaluating an investment avenue. There are so many investment avenues such as stocks, mutual funds, government bonds, post office schemes, bank fixed deposits, commodities, derivatives, gold, real estate, art etc. One should choose the investment avenue which suits him and fulfill his investment objectives.

How to manage investment at different stages of life

" An investment in knowledge always pays the best interest"- Benjamin Franklin

Financial needs and objectives change up per life cycle. As the life moves on, one's financial goals and source also take a churn. During the life span of 25-30 years, people are young. This is the stage where one starts his career and tries to get settled in life and career. One has no major liabilities at this stage. Therefore, their risk-taking ability also remains correspondingly high. They can go for ELSS or invest in equities directly. It is better if one starts taking life insurance policy from this stage onwards as the premium is cheaper. People in this age bracket cannot miss NSC or PPF completely. Put small amount for the later stages in life. People in the age group of 30-40 are neither very young nor too old and would have an appetite for risk and generally look for medium to high returns. At this stage, one consolidates himself. One becomes more stable and gets settled. Few responsibilities are attached with you at this stage. For anyone, insurance should be the most pressing need at this point. You need to increase the insurance amount or take new policies for other family members. Medical insurance, plays a good role here. ELSS, NSCs and bank deposits are other avenues that should be considered.

Between 40-55, financial responsibilities gradually get multiplied with the increased demand of higher education and marriage of children. The burden is high at this stage. Here, investment planning ought to be done with a dual motto in mind- to reduce tax burden and to earn reasonable income from investments. Take health insurance for dependent parents. One can invest in ELSS, mutual funds, RBI bonds etc.

Then comes the 'Empty-Nest' when you are near to superannuation. All 'the investments towards PPF that .one might have made till this point in life would be maturing into a lump sum amount by now. Go for absolutely safe investment avenues. It is not advisable to keep all the money in bank account. Distribute it over various safe investments.

As described earlier, investment should have certain attributes and 'Tax' isone of them. One should invest in a manner so that tax can be saved and more returns are earned. Remember one thing, don't always look at post tax return and make an investment to fight against inflation too. Do a tax planning but don't overdo it. Tax planning should always be simple and yielding.

Age-Risk Matrix

Age Profile	Risk Capacity	Liquidity needs	Return expectations	Tax impact
Young  (< 30 years)	High	Low	High	Moderate
Middle also (30-55)	Moderate	Moderate	Moderate-High	High
Old senior citizen (> 55 years)	Low	High	Moderate	Low

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