Category: Personal Finance

Difference between Financial Independence Vs Early Retirement Vs Financial Freedom

by Dev Ashish Leave a comment

Financial Independence Early Retirement Financial Freedom

The words like Financial Independence, Early Retirement and Financial Freedom are slowly but surely finding a way into the thoughts and vocabulary of us Indians.

Their numbers are still very small but surely, there are people who are not just asking ‘How much is enough to retire in India?’ – Instead, they are asking ‘How much is enough to Retire Early in India?’

The interest is definitely there as I myself got some coverage in leading Indian newspapers for aiming for financial independence (here and here).

Regular retirement vs Early retirement – some people are considering the latter. 🙂 And to be honest, it’s not hard to understand the appeal of early retirement or financial independence. Just ask this question a little loudly – How much money is enough to never work again in India? It sounds nice and liberating. Isn’t it?

I regularly receive questions like these on mail from readers – How much money is enough to retire at 40 in India? How much money is enough to retire at 45 in India? How much money is enough to retire at 50 in India?

So the interest is really there. But I have already written a lot about this topic earlier in FIRE – Financial Independence and Retiring Early.

In this post, I wanted to address the difference between Financial Independence, Early Retirement and Financial freedom as I see it. People use these terms interchangeably. But there are some differences.

I must also tell you that there are no perfect definitions here. So you can interpret these words as you like – as long as it helps you achieve what you are aiming for.

Difference between Financial Independence Vs Early Retirement

Financial independence and Early Retirement are 2 different things, but which are linked to each other in a way.

So let me try to explain it simply.

Financial Independence means having enough assets (or/and income generating assets) that you do not have to work for money again. Now here is the important part – you may still decide to continue doing what you are doing even after achieving Financial Independence.

Early Retirement, on the other hand, means actually retiring (and doing almost no income-generating work) because you have achieved Financial Independence.

For obvious reasons, if you plan to retire early and never work again, then you will need a much larger corpus than if you were to be simply financially independent.

Together, both FI (Financial Independence) and Early Retirement (RE) are referred to as F.I.R.E. but remember that there is a subtle difference between financial independence and early retirement.

That brings me to another aspect of FIRE.

Different Types of FIRE (Financial Independence Early Retirement)

One of the main questions when it comes to FIRE is ‘How much do I need to retire early?’

As you might have guessed, the answer is different for different people.

People’s lifestyles, their spending habits, financial situations, their real ability to take risks and several other factors influence their perception of how much might be enough for retirement. And therefore, the amount needed to achieve FIRE is different for everyone. But still, there are two major types of FIRE that people use as references:

  • LEAN Fire – This is a low-cost approach to FIRE. The idea is to reduce your expenses to the bare minimum (become ultra frugal) and achieve FIRE as soon as possible. It’s about having a life rich on time but short on luxuries. Lower the expenses, lower will be the FIRE corpus needed and sooner one can achieve it. That’s the logic here. For people targeting LEAN Fire, achieving the freedom at the earliest possible age is the most important factor.
  • FAT Fire – This is at the opposite end to LEAN Fire on the spectrum of FIRE. The goal is to retire early but not at the cost of quality. People who aim for FAT Fire also want to achieve it in a way so as to have enough for a better lifestyle. The corpus required for this is higher than LEAN Fire.

Both of these approaches are at the opposite ends. And it’s a matter of personal choice as to which one is better suited for whom.

In fact, there are no strict definitions. You can even label the levels in between as FIRE Level 1, FIRE Level 2, FIRE Level 3, etc. and take an aim at what you think is more suited for you.

And if you do an online search, you will find blogs for various levels – early retirement blogs, early retirement extreme blogs, frugal FIRE blog and what not.

So after having discussed Early Retirement and Financial Independence (both Lean and Fat FIREs), let’s tackle something related…

What is Financial Freedom?

I must warn again that there are no perfect definitions here. But I will try to say what I feel.

With Financial Independence (assuming something between LEAN and FAT), you are more or less locked into your chosen lifestyle. So if you chose LEAN FIRE and call it a day, then you really need to live frugally all your life because your corpus is smaller. On the other hand, if you chose FAT FIRE and took early retirement, then you can live a better lifestyle.

Now comes the difficult part to explain. 🙂

Financial Freedom I feel means that you live a much better life than what was possible in LEAN-Fire but also have the ‘real freedom’ to do few unplanned things (and spend on them) which you may not consider doing if you had a frugal lifestyle. In a way, it’s like having a FAT-Fire but with more flexibility.

Let me try with a mathematical example:

Suppose you are planning to achieve FIRE and have the following expenses:

  • Basic Expenses (Frugal Living) – Rs 40,000 per month
  • Discretionary Expenses (Better Living) – Rs 20,000 per month

Now if you are going for the LEAN-Fire, then you are mathematically allowed to spend Rs 40,000 a month. So that’s Rs 4.8 lac per year.

If you are going for FAT-Fire, then it allows you to live a life of Rs 60,000 per month kind of lifestyle (Rs 40K basic + Rs 20K discretionary expenses). That’s about Rs 7.2 lac per year.

Remember, having a FIRE corpus means that these kinds of expenses should be possible for you (with increasing inflation) for the rest of your life. And for early retirees, this means several decades!

Now comes Financial Freedom…

If I have the financial freedom, then mathematically, I should be comfortably able to spend annually:

  • Basic Expenses – Rs 40,000 x 12 months = Rs 4.8 lac, plus
  • Discretionary Expense – Rs 20,000 x 12 months = Rs 2.4 lac, plus
  • Another level of (optional) discretionary expenses = Rs 20,000 x 12 months = Rs 2.4 lac
  • Some unplanned luxuries (or unexpected expenses buffer) on an annual basis – Another lac or so

That’s real financial freedom! You can spend extra on few things here and there without having to spend sleepless nights thinking whether your corpus will run out before you run out of years or not. It also provides you with the buffer to spend in case of emergencies.

Achieving financial freedom also gives you the freedom from worry about money. And that’s the real freedom I guess.

So if I have to summarize, the timeline for corpus achievement goes like this:

LEAN F.I.   —>   FAT F.I.   —>   Financial Freedom

Early Retirement is up to the individual as to when he wishes to quit in between these levels. You can even look at these 3 levels as follows:

  • How much do I need to retire early?
  • How much do I need to retire early comfortably?
  • How much money do I need to retire early and never work again? 🙂

More Thoughts

I know a lot of people feel that FIRE is just about cutting your expenses and saving more. But that is not rightly completely. I would say that its also about simplifying and redesigning your life, which obviously gives you more time to focus on other things.

Aiming for FIRE helps you test your relationship with money. And it’s like asking yourself as to ‘What would you do if you didn’t have to work for money ever again?’ It also helps you decouple the idea of happiness from owning material things. It’s amazing when you actually realize it.

And one more thing. Achieving early retirement (and not just financial independence) not just requires cutting back on expenses. It also requires you to have a decent income from which you can save a lot.

If you are serious about achieving financial independence, then you should begin early. There are various thumb rules for financial independence and early retirement (FIRE). One such rule is that depending on when you wish to retire, you should have about 20-30x your annual expenses in your FIRE corpus. But let me tell you that thumb rules are good to begin with. Once you start your journey and are making progress, you need to ask more serious questions like:

  • How much money (Corpus) do I require for financial independence and early retirement (FIRE)?
  • How long will my corpus last?
  • How much can I draw from the corpus each year?
  • Can I draw more than what I answered in the above question, atleast in some years?
  • What will the inflation be in my retirement years?
  • What are my expected returns?
  • What will be the impact on your corpus if markets enter a bear phase just at the start?
  • What if I need to spend some money on unplanned and unexpected emergencies?
  • How will my other financial goals be tackled?
  • Have I saved enough for these other non-retirement financial goals?
  • And several other questions

Early retirement is an alluring goal or dream. No doubt about that. But to be brutally honest, very few aim for it. And even fewer can really achieve it. Most people are generally too late to begin with.

And apart from money, what does it take to retire early? …It takes a lot of focus and determination and a thick skin. And that’s because if you discuss these things with other people, you are sure to find many who will ridicule you. But if you are serious about it, then it means you will be going against the crowd and you will have to give a f*** to societal norms. If you don’t, then be ready for a regular retirement. That’s good and traditional too. 🙂 And there is ofcourse more to life than just money.

People feel that early retirement is a sort of hack to sort out their life! But I feel that retired life has too many other important aspects than just money. You really need to find out what you will do with all those years?? 🙂

If you are asking or searching for answers to questions like ‘How to plan for early retirement?’, then please beware of all the self-confessed best early retirement blogs, financial independence retire early blog, online resources, early retirement calculators, retirement corpus calculator India, financial independence number calculator, etc. Everyone has a different need and hence, the Financial Independence number and the Financial Freedom Plan will be different for everyone.

Time to end this article now.

In the debate of Financial Independence Vs. Regular Retirement, I would say that I prefer the FI. …But that’s my choice. If you feel that even the regular retirement is fine for you, then obviously that’s right for you and you should stick to regular retirement planning. You should never be forced to take a side because of the undue influence of others. Your life, your choice.

How to retire early at 40? How to retire early at 45? How to retire early at 50? What year can I retire? – Before you begin asking these questions, just stop and think for a moment as to is this really what you want? Or you are running away from something?

As for me, my aim is Financial Independence (and Financial Freedom). As for Early Retirement, I am too much in love with what I do (Investment Advisory and Goal-based Financial Planning) to currently think about retirement. 🙂 And that is the reason I focus on Financial Independence over Early Retirement.

But do not be disheartened if some of what I say seems too difficult to achieve. If you are willing to do what is necessary to achieve financial freedom, then let me tell you one thing – IT CAN BE DONE. I repeat. IT CAN BE DONE.

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Dev Ashish Retire at 40

Featured in Mumbai Mirror (for How to Retire at 40)

by Dev Ashish Leave a comment

My wife and I got some coverage in Mumbai Mirror a few days back.

The coverage was about people in India are working towards their Financial Independence (or Early Retirement) and trying to answer the question 🙂 How to Retire at 40?

Dev Ashish Retire at 40

Here is the article:

Dev Ashish Mumbai Mirror Early Retirement India

And here is the online link to the article.

Some time back, we got featured in Times of India about a similar topic of ‘Early Retirement in India’. Here is the link to that article.

Most readers know that financial independence is one of my major financial goals. I plan to do it by 40. Fingers crossed! 🙂 But let me clarify one thing here… as many people get it wrong.

Becoming financial independent or achieving early retirement doesn’t mean that I would not be doing anything after I turn 40. It only means that I would have accumulated enough money to take care of my expenses for the rest of my life.

I will without a doubt continue to do what I am doing right now – investment advisory.

Here once again, I must thank my wife Aditi who is my partner in crime in working towards this goal. Without her support, I could not have imagined aiming for such a goal. 🙂

If you are new to this idea of Financial Freedom or FIRE (Financial Independence & Retiring Early), then I have already written about it a few times:

Will try to write more about various aspects of Financial Freedom in near future – as I can clearly see that there are many people out there who wish to make Early Retirement as their biggest financial goal.

Thanks

Credit Cards – What you should Know and Do?

by Dev Ashish Leave a comment

Credit Cards India Comprehensive Guide

Credit cards have their haters. I am not one of them.

In fact, they are quite useful if you know what to do with them. And to be fair, there is nothing right or wrong about using a credit card. It’s how you use them that decides whether you will have positive or negative or even catastrophic repercussions. 🙂

Now before you start searching for the best credit cards in India or begin comparing credit cards in India, more important is to understand what this animal is and how to tame it. You should first really understand how to use credit card smartly in India.

I have already written about why Credit Cards are Not Evil. I thought that I would write a little bit more about the topic.

Personally, I use credit cards myself. Don’t ask me for all the reasons. It’s very convenient and I always clear off the full dues before time. So I don’t pay any interest. So it works for me.

Now if you were to ask me about Debit Card vs Credit Card, I would prefer credit cards as I am a little apprehensive about the fact that debit cards are linked to our bank accounts and if somebody were to get access to our bank details via debit card, they may do some serious damage to us. 😉 Ofcourse there is no right answer to when to choose a debit card vs a credit card. It all boils down to your situation, preference and more importantly, whether you understand the pros and cons of both.

If you already are a credit card user, you will already know many of the things mentioned in this post.

But if you have questions like ‘how to use a credit card for the first time?’ in your mind, then I hope this post will be useful for you. So let’s move on.

Benefits of using Credit Cards India 

1 – Interest-Free Credit Period – This is the biggest benefit. If you don’t know how it works, then here is a small example. Suppose your billing date is 15th of the month. And your bill due date is 5th of next month – i.e. about 20 days after bill generation date. So now if you make a purchase of let’s say Rs 10,000 on 17th August, then this transaction will only get reflected in the bill generated on 15th September. Since the bill has to be paid by 5th October, you get about 49 days interest-free period between 17th August and 5th October. On the other hand, if you made the purchase instead on the 13th of September, then you will only get 22 days (13th Sept – 5th Oct). So all transactions do not get the full interest-free period of about 50 days. Depending on the transaction date with respect to billing date, the number of interest-free credit days will differ for each transaction. But nevertheless, this facility allows you to manage your finances and cash flows. This can be a useful facility for most people.

2 – Handling Emergency Situations – Most people can arrange money for emergencies (from savings, family, friends, etc.) in a couple of days. But what if the need is more urgent? Credit cards are useful in such cases. More so if you know that you do not have enough savings. A credit card allows you to take the money and use in emergencies and then figure out how to repay it later. And that is what is needed in emergencies.

3 – Reward Points & Cashbacks – I am not a big fan of these as these can psychologically force people to spend money unnecessarily. But it is still an added advantage. I generally use reward points to buy books via ecommerce sites. So good for me. 🙂

4 – Discounts – These again entice people to spend more money. But if you only stick to buying what you need, then discounts are a good thing to have. Isn’t it? Who doesn’t want them?

5 – Possibility of Interest-Free EMI – Many cards have tie-ups with various sellers and at times, allow you to convert your purchases into interest-free EMIs (at times with and at times without processing charges). This is helpful for people who want to spread large expenses over a period of a few months to reduce the burden on their monthly budgets.

6 – Credit Card usage helps build CIBIL Score – If you maintain a decent credit limit and % utilization of the credit limit, then slowly it will help you increase your credit score. But do not go for too many cards as this will seem like a credit-hungry behaviour to the rating agencies.

7 – Then there is the factor of operational efficiency that comes with credit cards. This factor in itself clinches the game for me.

Before you accuse me of painting too rosy a picture of credit cards, please understand that credit cards by themselves are neither good nor bad. If you use it irresponsibility, you will end up damaging your personal finances and future financial health. Having the discipline, using it only when you can pay it back fully, staying within reasonable % of credit limit, etc. is how this tool should be used.

But if you cannot do these, then the credit card is not for you. You should not have them. And you should not read the rest of this post. 🙂

Now if you are still with me, let’s move on…

How does Credit Card charge interest?

If you do not understand the mathematics of credit cards, you will not use it well. And if you don’t use it well, you will become a victim of mounting credit card debt. And that can be disastrous.

I will try to explain the maths of how credit cards calculate interest and how it works in as simple an example as possible.

But before we proceed, do remember and acknowledge this fact that the interest rate on credit cards is highest among all forms of credit facilities that are available to us. It can be as high as 40% annually or 3.5% monthly. Just read those interest rates again. For comparison, let me remind that a fixed deposit gives 6-7%, savings account 4-6% and equity gives about 12-15%. And with credit cards, you are paying 35-40%.

So with that understood, let’s understand a few terms that you should be aware of when using credit cards:

‘Interest-free period’ is the difference between the date of the transaction and due date of payment for that billing cycle. This period is obviously different for each transaction and during this period, you don’t have to pay any interest on your transaction – provided you pay the entire bill outstanding by the due date.

‘Minimum Amount Due’ (MAD) is the minimum amount that has to be paid by the due date. Paying atleast MAD will ensure that you don’t pay any late payment fee and your credit card account will not be reported as irregular which can have an adverse impact on your credit score. But remember… by paying just the MAD, you will still not avoid interest on the unpaid amount (Full Due Amount minus MAD).

Let’s take a scenario now.

Assume the following:

  • Credit Card Bill is generated on 15th of every month
  • Payment Due date is 6th of every month
  • Interest charged is 3% per month

Here are the transactions:

Scenario 1: When Full Dues Cleared before Due Date

  • 9-Aug – Purchase (Rs 20,000)
  • 15-Aug – Bill generated (Outstanding-Rs 20,000; Minimum Amount Due-Rs 1000; Due Date-6th Sep)
  • 3-Sep – Payment (Rs 20,000)
  • 15-Sep – Bill generated (Outstanding-NIL; Minimum Amount Due-NIL; Due Date-6th Oct)

Scenario 2: When Full Dues Not Cleared before Due Date

  • 9-Aug – Purchase (Rs 20,000)
  • 15-Aug – Bill generated(Outstanding-Rs 20,000; Minimum Amount Due-Rs 1000; Due Date-6th Sep)
  • 3-Sep – Payment (Rs 1000) (Paid only Minimum Amount Due)

Now the statement that will be generated on 15-Sept, will have the following components:

  • Outstanding Amount = Rs 19,000 (Rs 20,000 – Rs 1000)
  • Interest@3%p.m. on Rs 20,000 from 9-Aug to 2-Sep = Rs XXX
  • Interest@3%p.m. on Rs 19,000 from 3-Sep to 15-Sep = Rs YYY

So the bill generated on 15-Sep will be of Rs 19,000 + XXX + YYY.

And that’s how to calculate Credit Card Interest. You can even find credit card interest rate calculators online.

And had you not paid the minimum amount due (MAD) of Rs 1000 before the due date (of 6-Sep), you would also have to pay an additional late fee.

As you can see, if you make regular and full payment to your credit card account, you can get interest-free credit. However, if you don’t make the full payment and/or pay only the Minimum Amount Due, you will not get any interest free credit period. Also, you will be charged a lot of interest till you clear it off. So if you are planning to just Keep Paying the Minimum Amount Due on credit card every month, then let me tell you that it’s a very bad decision. You will bear a lot of interest cost over the period in which you will be clearing the full outstanding. And if in between you keep making purchases, then those too will be added to overall outstanding and will be charged interest accordingly. This can easily spiral off into a debt disaster.

These are the very reasons why you should pay off your credit cards dues in full. Now you know the right answer to the stupid question ‘is it better to pay off the credit card or keep a balance?’ 🙂

So to repeat – it’s in your best interest to try and make credit card payments in full every month.

If for some temporary reasons you are unable to clear the full dues, make sure that you pay atleast the Minimum Amount Due. However, don’t make this your default option and clear off the full due as soon as possible.

So now you more or less know how to calculate interest on credit cards. I would suggest that you go through the ‘Most Important Terms & Conditions’ or MITC of your credit card. The MITC of your credit card clearly explains the methodology used to calculate interest with examples and have a lot of other important details.

Some Tips & How to pay off your Credit Card Debt?

You have your credit card. Few people already know the best ways to use credit card in India. 🙂

The basic principles are universal. But if you have doubts, then the questions you should be asking is to how best to utilize it without making the common mistakes that credit card users make.

Let me try and list down some tips or let’s say, best practices:

  1. Always pay the credit card dues on time and before the statement due date.
  2. Do everything possible to pay the full amount, on time and every time. If for some reason, you can’t do it occasionally, its fine. But if this becomes a regular thing, that means you are spending more than what you can afford. Stop using your credit card immediately.
  3. This is linked to the above point. Try to pay in full. But if not, make sure you atleast pay the Minimum Amount Due.
  4. Do not use the full credit limit of your card every time. Every rupee you use, it is you and you alone who has to repay back. Some estimates say that using about 30% of your credit limit is considered to be healthy.
  5. Credit cards offer attractive reward points and cashbacks. But that doesn’t mean you should use the card unnecessarily just to score some cashbacks or earn reward points.
  6. To start with, just keep 1 credit card. That is sufficient for most people. But if you really have the need for another, then question yourself whether you are spending more than what you should be? Or if you want to have more cards due to your spending patterns and as many spend-specific cards can be actually beneficial, then do not go beyond 2-3 cards.
  7. If you have two cards, try to keep the statement dates around 15 days apart. So, for example, Card#1 has a statement date of 15th of the month and Card#2 has a statement date of 1st of the month. Then if you want to optimize your spendings and make full use of the interest-free period, you should use the Card#1 for spending between the 1st and 15th of the month and use Card#2 for spending between 15th and 31st of the month.
  8. If you unfortunately and somehow run up a huge credit card outstanding balance, then first of all, stop using the card. Next, liquidate some savings or borrow money from family, friends to clear the mess. Credit card interest rates are 30-40%. So you should get the mess cleaned before it becomes a personal finance disaster. You can even consider taking a personal loan which will be much cheaper than credit card debt.
  9. If you are about to take a card, do pay attention to the joining and renewal fees. Some credit cards offer zero joining and renewal fees. But when looking for a credit card, pay attention to the fee structure alongwith the card’s benefits. Moreover, many cards allow a fee reversal if you spend a certain amount annually. Look out for these benefits and be prudent about it. Do not go after benefits which are not useful to you.
  10. Some people are credit card reward point’s monsters! 🙂 They know how to take out the maximum benefit from their cards. Maybe you and I cannot be like them. But still, take time to understand the rewards structure. Maybe, it might work for you well.
  11. Do check and verify your credit card statements every month. Scrutinize each item carefully to be sure that you are not been taken for a ride knowingly or unknowingly.
  12. If you feel that a high credit limit is the reason you are unable to lower your card spends, then first of all, you are to be blamed. Go ahead and get your limit lowered. But remember, lowering of credit card limit may not be the solution. If your credit limit is reduced, your % utilization of the credit card will increase. And it will have a negative impact on your credit score. So better to control yourself.
  13. Do not withdraw cash from ATM using credit cards. There is no interest-free credit period if you use your credit card to withdraw cash. You have to pay interest from the very first day and remember, the rates are exorbitantly high.
  14. If you want to get a credit card but can’t get it, you can consider applying for Credit Cards against Fixed Deposits. This will help you build credit history and a decent credit score – which will be needed for future (bigger) loan applications when you apply for home loans, etc.

Since we have discussed enough best practices, let’s tackle just one major question – which many people having unmanageable levels of credit card debt would be asking.

Should you take a Personal Loan to pay your Credit Card Dues?

The mere fact that someone is asking this question means that they are in trouble.

If it is you, then first of all, you spent more than you could afford. You spent more than what you could repay immediately. You spent more than what you could repay after some time. You either don’t have savings to dip into or you don’t want to liquidate them. You may have also tried borrowing money from friends and relatives without success.

So you are here now.

A lot of credit card debt which you find it extremely difficult to service every month.

The realization might have now been there that handling credit card is not as easy as it seems and it is way too easy to overspend when using your credit card.

But there is a solution. It’s not perfect. But nevertheless a better one. And that solution is to take a small personal loan. It will act as a credit card debt consolidation loan – which will help you overcome your credit card dues at one go.

There is an obvious advantage of this strategy – A personal loan is way cheaper than the credit card interest rates. You can get personal loans at around 15-20% whereas credit card costs around 30-40%. And before you take a personal loan, you can check out personal loan EMI calculators that are easily available online.

Since you would have cleared your high-interest loan at one go, this will have a positive impact on your credit score. But beware – you still need to service the personal loan EMIs and if you fail to do so on schedule, you will once again receive negative vibes in your credit score.

Now those opting for this strategy must not forget that in spite of comparative cheapness of personal loan (when compared to Credit Card), the fact is that personal loans themselves are very costly loans. So this should be your last move after you have tried our all other options like reducing your expenses to pay more, liquidating some short-term savings, borrowing from your people, etc. And why you should aim to be loan-free? You already know how relieved you feel when that happens. Isn’t it? 🙂

Finally…

Credit cards are useful no doubt. But if you can’t manage its power well, then you should not keep it with you. They say with great power come greater responsibilities. 😉

I don’t have anything else to say after what I have already written.

Just be careful when using your credit cards, be sensible about your spendings and try to understand how credit card and credit card interest calculations work. Once you know it, you yourself will become extra careful about how to use credit cards and in fact, how to use credit cards smartly and wisely.

So is it good to have credit cards?

I have already written a few thousand words in this article and an earlier one. So I have nothing to add now. 🙂

How much Housing Loan should you take?

by Dev Ashish Leave a comment

How much Housing Loan should you take_

Most people need a housing loan to purchase their first house. And I know what you might be thinking when you saw the title of the post ‘how much home loan should you take’.

As much as possible or as much as I can afford. Isn’t it?

But before we talk about in detail as to how much home loan should you take, let’s give some thought to the on-going but growing debate between buying vs renting a house.

I will try not to take sides but it is difficult.

A house in spite of being the biggest expense of most people’s lives is also an emotional decision. And no number can be attached to this emotion. No matter what the online buy vs rent calculators might be telling, I believe that most people would want to buy a house eventually. That’s what makes us human. 🙂 Ofcourse there will be some who feel that staying on rent forever is the way to go. But such people are still in a minority.

Now I am not a very big fan of real estate as an investment. I prefer equity. But I also feel that having one house somewhere is a good idea. Whether you decide to buy a house early in your career or later is a personal decision. Since I mentioned the word ‘investment’, here is an old but detailed analysis of investing in Equity Mutual Funds vs investing in Real Estate. You might find it interesting.

So let’s come back to the agenda for this post

How Much Housing Loan Can You Take?

This is not an easy question for most people but it also has a mathematical approach to help you decide.

Let’s look at it from the lender’s perspective. What does a bank/organization giving home loan wants to know?

  • Do you earn enough to be able to service the home loan EMIs?
  • Will you continue to earn enough to repay the home loan fully in future?
  • How has your past loan repayment behaviour been? Did you miss paying EMIs occasionally or regularly?
  • Do you have other loans (like a car loan, personal loan, education loan, etc.) where you are already servicing the EMIs?
  • Do you have some other financial assets as well?
  • Can you bring in some money (about 20% downpayment) from your own pocket to make the house purchase?

These are some of the major factors that lenders consider among many others.

Now generally, lenders have this rule that says that you should only be using about 30-40% of your income for loan repayments. Let us assume 40% for simplicity.

So if you earn Rs 1 lac per month, lenders will give you a loan that has a maximum EMI of about Rs 40,000 (i.e. 40% of Rs 1 lac).

If now you do some reverse calculations, you will know what home loan amounts are available for the EMI of Rs 40,000 per month. Ofcourse the loan amounts will vary for different combinations of loan tenures and interest rates.

So from the lenders perspective, we have answered the question – What percentage of monthly income should my home loan EMI be?

But let’s be practical, I am pretty sure that most people would be willing to stretch this ‘40% of monthly income as EMI’ to even ‘50% or even more of monthly income as EMI’ if the right property comes along. Isn’t it?

But should you do this?

Because this will obviously impact your ability to manage your personal finances, savings for other financial goals and your lifestyle. And everybody has a different expense pattern so it is difficult to say anything in general. So some people will find it comfortable even if they have to pay more than 50% of their income as EMI. Others will find it difficult to pay even 30% of their income as EMI due to higher expenses.

Also, what if you are taking a loan with your spouse and eventually the plan is for your spouse to quit working? Will you still be able to foot the entire EMI bill from single income?

Some feel that renting for some more years is better than choosing a small house just to keep your loan EMIs down. Then there are others who feel that it’s better to buy a house (even if small) soon and then, later on, when income is higher, they can buy a bigger house by selling the first one.

Both seem to be practical approaches. To be honest, it’s difficult to judge anyone here.

Buying a house as soon as possible gives you the satisfaction of having arrived in life. You own a house dammit! 🙂 You are also protected from the future increase in property prices as you have already made your purchase. You can then use fresh enthusiasm and free surplus income to pursue other financial goals (free excel download).

Buying a house later when you are more settled and have a higher income is also one common approach. Since income is high, you can even go for a bigger and better house (assuming you need it) as you can service a bigger loan and EMIs as your EMI/Income Ratio (40% max) has a bigger denominator.

As I said earlier, both approaches are right for different types of people. It’s a personal choice.

You already know that your credit history plays a major role in the lenders deciding whether to lend to you or not. Your cibil report tells the lender how you have been repaying your past loans. Have you been a good borrower who repays each EMI on time? Or you have been a not-so-good borrower who misses his EMI every now and then and finds it difficult to close his loans cleanly.

And did you know that in some cases, your score also decides what loan interest rate will be offered to you? If your score is high, you might get the loan at a lower rate! And that can save you tons of money in the long run. So it would be a good idea to check your credit score before you apply for a home loan. Atleast you will know whether the score is good or bad and accordingly, you can negotiate with your lender for better loan rates.

Some More Thoughts

Real estate juggernaut went on for more than a decade till it eventually slowed down in last few years. Earlier, people used to keep taking loans to buy houses and sold them a few years down the line because prices were rising enough to prepay the home loan and still make a huge profit. And this was being repeated. An entire ecosystem got built around people’s interest in this asset as an investment (Read more about the reality of Indian real estate).

But people still need houses and will buy them. If not as an investment (thankfully) then as something for personal use. I offer some thoughts here about making the house purchase:

  • Buying one house is enough for you. And unless you are really getting a good deal in properties, there are other reasonably good investment options to consider.
  • If you want to buy a house in the early part of your life, then so be it. But still don’t be in a hurry. It’s a big decision. Take your time to decide it correctly.
  • Banks and other lenders want you to take a huge loan so that they can earn interest on higher loan amounts. But it’s in your best interest to not stretch yourself too much. They say 40% of your income can be used for EMI payment. But if you can bring in higher downpayment (i.e. take a smaller home loan), then it is not a bad idea to have a lower EMI component.
  • It’s a good idea to wait for a few years and save up a sufficiently large amount (preferably larger than 20% of house cost) as the downpayment. Depending on your saving capability, eagerness to buy, available time (years) at hand and market conditions, you can even consider having some equity component in your savings for this downpayment.
  • Understand this concept fully – shorter the loan duration, lower will be the interest component, but higher will be loan EMIs.
  • Depending on how much home loan EMI you can comfortably service with your current income, keep the loan tenure as about 15 or 20 years.
  • Do make up your mind that you will clear this loan earlier than the originally stipulated tenure. But making mind is not enough. You will have to do something about it too.
  • One way is to try and pay one extra EMI every year (atleast).
  • Another way is to use your annual bonuses to prepay part of the loan.
  • Then there is a case for going for a longer than usual loan tenure of let’s say 30 years. Why and when? This approach uses a combination of home loan EMI and mutual fund SIP. A longer tenure means lower EMIs. The savings made on lower EMIs can then be invested every month in something like equity mutual funds SIP– which is expected to do well over long periods. Assuming equity does deliver decent returns, this approach of selecting a longer loan tenure and doing the SIP can help you repay your loan earlier. This approach might suit some people but is not for everyone. I will write about this approach in detail sometime later.
  • There are many who want to do keep it simple and be done with their loans as soon as possible (and live a loan free life) without any financial jugglery. They will aggressively repay their home loans. But if done too aggressively, this approach can compromise savings for other financial goals. And that is not advisable – more so because home loan rates are fairly low if you consider tax breaks on offer.
  • Ensure that you have an adequate life insurance that can be used to pay off the loan if you were to die tomorrow.

Loan Free Life – Possible and Worth the Effort!

by Dev Ashish 6 Comments

Loan debt Free Life

Who wouldn’t want to live a debt-free life?

This image below aptly depicts what I would need thousands of words to explain 🙂

But let us be fair – at times, loans are unavoidable.

You just have to take some external help to manage your personal finances and expenses.

These days, very few people would be capable of purchasing houses without taking home loans – reason being the sky-high property prices and the sad reality of the Indian property market. Then there are personal loans for people who need money for various other reasons. And credit cards – remember them too!

It is easy for us to say that loans should be avoided. But without knowing the borrower’s background and personal situation, we really cannot judge whether they are taking loans unnecessarily or whether they are doing the right thing.

Historically, we have been a society of savers.

But things are changing now. There is a generational shift in how the newer generation views debt. I read an interesting article recently on this issue (link). India’s household debt to GDP has moved up from 11.2% in FY12 to 15.7% in FY18. And this trend is expected to continue as there is an attitudinal shift towards loans among the younger lots. And here is another interesting fact, current Household Debt to GDP of 15.7% is way below the emerging market average of 39%.

So atleast theoretically, we may continue to see this ratio inch upwards as we transition from being a hard-core savers’ society to one which is more comfortable saving a little less and taking loans for preponing their expenses.

Will this transition lead to an eventual crisis like the over-leveraged societies of developed nations?

Maybe yes. But that is something which you or I cannot predict in the near term. So no point deliberating on it. Let’s cross the bridge when it comes.

Earlier, loans were treated like a disease. But now, they are being perceived as nutritional supplements. 😉

I remember that when one of my young clients approached me for financial planning and investment advisory, I was shocked to see how he was treating debt like the working capital of his personal finance!!

At times, I am surprised to see how many young people (including some of my friends) are trying to tackle huge credit card bills, personal loan EMIs, car loan EMIs and yes…. Home loan EMIs.

Some feel ok living like that. But others repent their choices day in and out as they end up arm-twisting themselves into a debt filled life. Its like they are earning money just to pay their EMIs and bills.

But let’s move on…

How to close your Loans and Live Debt Free?

Now we are talking. 🙂

You have credit card bills, personal loan EMI, car loan EMI and a home loan EMI. Did I miss anything? Maybe an Education Loan EMI as well.

How are you feeling?

No need to answer. I know it. You know it. And worse, your family members can sense how you feel about it.

See the basic principles of how to close all your loans is no secret. You know it too. But most people end up taking a lot more loan than what they should be doing. Home loan (and even a car loan) I understand can be justified. But others are more about spending problems – not being able to stop yourself from spending beyond your means.

And I hope you realize what happens when a major chunk of your income goes towards loan EMIs. You already have non-negotiable household expenses to tackle. This leaves very little or no surplus that can go towards savings and investments for your financial goals.

God bless the government that forces people to save via EPF, etc. Had it not been for them, many young people would literally have no savings at all! These people are most vulnerable to ‘being just one unplanned expense away from financial disasters’.

Now make 2 lists.

First one listing down all your loan details as given below:

Loan EMI Monthly Obligations

* The figures used above are random.

This list will clearly show you where you are in relation to your debt.

Now make another list as given below:

Monthly Cashflows Personal Income

This list tells you how your income comes and goes out. In the above particular situation, the person is basically broke at month end and is living paycheck to paycheck.

And if you still haven’t noticed, then let me highlight that there is no row for savings in the 2nd table. That is because the person has put himself in this situation of not being able to save for his real financial goals. He (it seems) is planning to take one side of the payoff loans or invest for future kind of debates.

The sad result of this inability to save is the dramatic loss of compounding which comes with delay in investing.

But that’s how it is for many people – Earning well. High expenses and EMIs. Almost no savings!

So with data in front of you (in two tables), what should you do?

For practical reasons, try to pay off the smallest loan first. In this particular scenario, it is also the highest-interest bearing loan (i.e. credit card), so this makes all the more sense.

Now you will ask, how should you prepay it when there is no surplus left at the end of the month?

The answer to this question is to figure out a way to generate that surplus from somewhere.

How do you do it?

If you can increase your income quickly, then that’s great. Else – Reduce your expenses somewhat My Lord! 🙂 That’s how elementary it is!

I know it is difficult for you to do and easy for me to say.

But you have to do it Sir!

More so, if you can spare some money from your existing assets (let’s say money in fixed deposits or savings account), then use it too. But do keep some money for emergencies as well.

So that takes care of your one EMI.

One loan closed!

And since the loan is closed, you have more surplus money as the EMI for that particular loan is not needed to be paid.

Now what to do?

Take the next smallest loan or higher-interest cost loan and begin prepaying it.

Repeat this again and again. That’s how you do it. After each loan closure, your monthly surplus will increase (due to EMI elimination).

I don’t think most people are comfortable taking money from friends and relatives. But if it works for you, then you can take some and pre-close a small loan. Up to you.

Remember that you should first try to get yourself free of at least credit card debt and personal loan debt. Once these two are tackled, you should think about clearing your car loan and then the home loan (that you took to purchase your properties). But whatever you do, please do not default on your EMI payments of any of your loans. It will hurt your credit score and your ability to get loans in the future.

I am repeating this but when you begin this exercise, reducing your expenses is very important.

Just for some months, give up on your worldly pleasures and tackle the loan problem. Once you have closed one of your loans, automatically your surplus would increase and I would not pester you to reduce your expenses 🙂 You can begin living in ‘today’ again.

Ultimately, this combination of controlled expenses, reducing EMI outgo leading to higher surplus and income hikes will allow you to be in a comfortable situation.

This would then allow you to invest and save properly in a structured manner – goal based investing. And believe me, this approach will make you feel in total control of your finances.

So that’s how you can begin your journey of a debt-free life. Simple but maybe not so easy. But do it nevertheless. It will be worth it.

Now let’s discuss briefly some points that should have been tackled earlier itself.

How much loan EMI can you afford?

This is the question that should be asked before you start applying for your multiple loans. 🙂

Ofcourse there is no perfect answer.

But your income is limited and with regular expenses to take care off, there is a limit to how big EMI(s) you can afford.

Different people having different loans will ask a different version of this question. Like:

  • How much Home Loan EMI can I afford?
  • How much Personal Loan EMI can I afford?
  • How much Car Loan EMI can I afford?
  • I already have a car loan. Now how much Home Loan EMI can I afford?
  • I already have a home loan. Now how much Car Loan EMI can I afford?
  • I already have a home loan and a car loan. Sh**! But I also need some more money urgently due to an emergency. So how much Personal Loan EMI can I afford now?

See?

Different situations, same concern – Due to limited income and growing expenses, what is your loan EMI affordability?

The lenders (banks, NBFCs in collaboration with credit rating agencies) help you in this regard somewhat.

These lenders ensure that EMIs for all your loans combined do not exceed 40-45% of your take home salary.

But problem is that they don’t know about your expenses and other off-book financial commitments.

So if your non-EMI based expenses are too high (like 70%) and bank doesn’t know that, then even if bank is willing to give you a loan of EMI equal to 40% of your income, you yourself will be stupid to take such a loan as your EMI+Expenses would far exceed your Income. That would be a financial disaster unless you can cut down your expenses drastically.

And ideally, you also need to save for the future too. And saving a very small amount – like saving 10% of your income might not be enough.

So you need to be prudent about how many and how much loan you take.

There is a limit to what you earn. There is a limit to how much you can reduce your current expenses to accommodate the loan EMIs. And there is a limit to how much you should compromise your savings and investments to repay the loan.

So do not get attracted unnecessarily towards easy availability of loans to spend on discretionary material possessions.

Taking loans is inevitable for most people.

But remember that no matter how easily you get a loan, the fact is that you and no one else has to pay it back. So gradually, make a conscious decision and work towards a debt-free life to build your case of achieving financial freedom at the earliest.

Should you use ‘100 minus age’ rule to decide Portfolio Asset Allocation?

by Dev Ashish Leave a comment

100 minus age rule Asset Allocation

The rule of ‘100 minus age’ to decide investment portfolio asset allocation is a popular and one of the oldest rules for retirement planning.

But unfortunately, it’s a highly misused one too.

And the reason is simple.

The investment world can be quite complex at times and people are constantly on a lookout for shortcuts or thumb rules. And one such thumb rule that is born out of the search for such shortcuts is the much-abused thumb rule of ‘100 minus age’ to get your ideal portfolio asset allocation.

So…

What is the ‘100 Minus Age’ rule of Investing?

It is simple.

If your age is 30, then you invest 100 minus 30 = 70% of your portfolio in equity. Remaining 30% goes to debt.

It basically answers the question about what proportion of your portfolio should be in equity investments.

More examples according to the rule:

  • Age 35 means 65% can be in equity and 35% in debt
  • Age 40 means 60% can be in equity and 40% in debt
  • Age 45 means 55% can be in equity and 45% in debt
  • Age 50 means 50% can be in equity and 50% in debt
  • Age 60 means 40% can be in equity and 60% in debt
  • Age 70 means 30% can be in equity and 70% in debt
  • Age 80 means 20% can be in equity and 80% in debt

At the face of it, it seems like a reasonable rule to adhere to. But the reality is very different.

This thumb-rule of 100 minus age doesn’t take into account other important factors to arrive at the right equity-debt allocation in a portfolio. And that is why one needs to be careful while using it.

The 100 minus Age rule doesn’t always make sense

The very first thing to note is that the idea is too simplistic.

I am a firm believer of simplicity when it comes to investing. But this rule takes it a bit too far and makes it far simpler than is actually needed.

And that is where it fails.

It simplistically assumes that age is the only factor that should decide the asset allocation and investor’s risk appetite and return needs.

And this assumption is wrong.

Broadly, the rule tries to say that older investors should have a lower allocation to equity. That’s it. This is the broad message. But beyond that, using this formula that is a very big generalization can turn out to be disastrous if followed blindly.

It cannot and should not be applied in all scenarios.

Let us take a few examples to understand why:

Suppose two investors A and B aged 40 are planning their asset allocation. If the rule of 100 minus age is used, then both should have 60% in equity and 40% in debt.

But let’s see what is the real situation of these investors A and B.

Investor A has many dependents – housewife, two school going kids, old retired parents one of whom is scheduled to have a big surgery in coming months, a sister ready to get married in next few years. He also has a running home loan.

Investor B has a working wife, one school going kid and his father runs a successful business. He stays in a home which is fully paid for.

As is easily evident, there is a vast difference between the profiles of both investor A and B even though both are aged 40.

So should they have the same asset allocation?

The answer is no.

Investor A needs a lot of money in the near future (due to parent’s operation and sister’s wedding) and hence, cannot take a lot of equity. He is also constrained by the fact that he is the sole earning member and also has home loan EMIs to pay every month (in addition to school fees of kids). So overall, a very tight situation with a lot of near-term liabilities and scheduled cash outflows. Investing a large proportion of savings in equity can be disastrous for him if markets take a wrong turn.

Investor B on the other hand, is part of a dual income family, with just one school going kid as a dependent. No loan EMIs too. So naturally, he can have a more aggressive asset allocation.

And this is what the problem of 100 minus Age rule has.

It does not give any weightage to the investor’s unique situation.

Robotically reducing your equity allocation just because you’re getting older?

Not the most prudent strategy as people are living longer now and if they have less than adequate amount of equity in their portfolio, they are not going to get the much-needed growth that is imperative to ensure that their portfolio lasts longer than themselves.

The actual asset allocation should also consider factors like the total corpus, its relative size with respect to regular expenses, any scheduled cash outflows for short-term goals. And let us not forget the willingness to take risk as well as the ability to take risk.

Another problem I see in this is that it doesn’t consider the size of investor’s portfolio relative to the regular living expenses.

A 65-year financially independent investor who has a retirement corpus of 45x his annual living expenses and another 5x for regular expenses / liquidity can take a lot more risk than what the formula might tell him.

Isn’t it?

The 100 minus age rule will tell that this investor should have 35% in equity. But I think that if the investor is willing to take the risk, then 35% is too less for such a scenario. The retirement corpus, which is equal to about 45 times his annual expenses, is not needed for his regular expenses (which are handled via the other corpus of 5x). So here equity can be much higher. So in an undervalued market, it can even be as high as 60-70% equity or even more if the investor is comfortable.

What To Do Then?

The “100 minus age” rule is a very general thumb rule. And as highlighted previously, it may not be suitable for everybody of a particular age.

The biggest flaw with the thumb rule is that it puts every individual in an age group in the same box. And that is stupid!

Instead if you are a common investor, then you are better off sticking to the goal-based approach to investing.

Goal-based investing is more scientific, situation-aware and works best when combined with dynamic portfolio strategy to maintain asset allocation.

I have already covered various aspects of it in detail earlier. Some of the links that you may find useful are:

The best part of this strategy is its simplicity. Depending on your risk profile and goal investment horizon, this strategy tells you how much to invest and in what asset allocation for all of your financial goals.

Finally…

As you have seen, the thumb rule of 100 minus age isn’t applicable in all scenarios.

The general idea of the rule is that older you get, will have to depend more and more on your investments for your living expenses and hence you should reduce your equity exposure. But that’s it.

There is no use of this thumb rule beyond that.

Rules of thumb in any case are mere approximations and one should not rely on these rules blindly.

So should you use the 100 minus age rule to decide your portfolio asset allocation?

To cut a long story short, if you’re planning out your asset allocation, then its best to forget this rule.

Find out your financial goals and take the goal-based investing approach.

If you have trouble figuring things out, you can even consult an investment advisor to create a goal based financial plan for you.

It works much better and helps you achieve your financial goals. To be fair, it may not be as simple as these thumb rules but it is far more accurate and increases the probability of goal achievement. And that is something that we all want.

Are you making the most of your money in Savings Account?

by Dev Ashish 2 Comments

Making most Savings account

For most people, a savings bank account is the default choice when it comes to the options to park their money for the short term. Other popular one being short-term fixed deposits.

But many times, savers end up leaving excess amounts in their bank accounts for various reasons or the other.

I understand that if it’s for some short-term goal or expense, then it makes sense. But given that the interest rates on most banks’ savings account are nothing to write off, it’s a no brainer that this type of account is unsuitable for parking money for long term.

As the name suggests, it’s a savings account and not an investment account. That should be remembered.

Read that again.

If you do a saving bank interest rates comparison, you will find that the savings account interest rates are mostly 3.5% to 4% but can go up to 7%. The actual rate you are offered depends on the bank you are dealing with and the amount you wish to park.

Presently, if you were to search for which bank gives the highest interest rate on the saving account, then chances are that the rates on offer would be about 7.5% (for amounts exceeding some threshold).

As for historical savings account interest rates – till 2010, the interest rate on savings accounts was 3.5%. But in 2011, the Reserve Bank of India or RBI deregulated the interest rate on savings accounts. Banks could then set their own interest rates. But the general trend has been to offer about 3.5% to 4% by most major banks. Some newer and aggressive banks offer higher interest rates of 6-7%.

How much money should you keep in Savings Account? 

Good question. 🙂

But there is no standard formula for this.

A reasonable amount should be kept. If you were to ask me what exactly do I mean by ‘reasonable’, I would say that an amount equal to 1 to 3 month’s worth of expenses should be fine. Whatever gives you reasonable levels of peace of mind.

Ofcourse if some near term expenses are approaching, then the amount in savings account can be much higher.

But there is no reason to keep a high savings account balance on a regular basis. More so in the era of zero balance account and unless you are an ultra-conservative investor, it will mean you will lose out on higher returns that could have been generated by parking your money elsewhere.

For the sake of completeness and because many are unaware, let me tell in brief how the interest on Saving Bank account is calculated?

The interest is calculated on the daily balance in your account. But the total interest is credited to the account only quarterly.

Taxation of Interest from Savings Account

Since you are parking money with the bank, it will pay you interest. This interest is an income for you and hence, should be taxed.

But our respected Income Tax Department gives a deduction of up to Rs 10,000 under the Section 80TTA on interest earned from all your saving bank accounts in a financial year.

What about interest exceeding Rs 10,000 per financial year?

It will be taxed.

So, if your interest income from the savings accounts is Rs 7000, you don’t have to pay any tax on it. But if it is Rs.14,000, you need to pay income tax on Rs 4,000 according to your tax slab.

Remember, the deduction available under section 80TTA is only applicable to interest earned from Savings Account and not on interest earned from fixed deposits or term deposits.

Also, this deduction is available on interest income from ALL savings bank accounts. So you cannot have Rs 10,000 deduction for interest from each of your saving accounts.

So how much money should be kept in your savings account(s) to earn Rs 10,000 in tax-free interest?

It will depend on the interest rate on offer like this:

  • At 4% interest, amount to be kept in savings account is Rs 2.5 lac
  • At 5% interest, amount to be kept in savings account is Rs 2.0 lac
  • At 6% interest, amount to be kept in savings account is Rs 1.66 lac

So if you are keeping a few month’s worth of expenses in Savings Account, then the amount will generally be tax-free. This is assuming your expenses are not extremely high. 😉

And since we are talking about taxes, let me tell you that Tax Saving should not be your blind priority.

Your life is about your real financial goals and money should help you achieve them. And efficient tax saving is a positive side effect of a Smart Goal-based Financial Plan that helps you achieve your life goals.

Good alternatives to Savings Account?

 Is the there a better option to earn somewhat higher returns than keeping money in savings account?

One decent option is Liquid Fund – a type of low-risk debt fund (read more about Mutual Fund category changes).

These are open-ended mutual fund debt schemes which have a very short-term investment horizon. These invest in money market instruments like the certificate of deposit, treasury bills and commercial papers of up to 91 days.

Infact, these days you will see a lot of promotion around Liquid Funds vs Savings Account kind of theme.

Let’s try to briefly understand whether Liquid Fund is really a good alternative to Savings Account or not.

In 2017, the returns delivered by Liquid funds were about 6.5%. But in years preceding 2017, the returns ranged from 7.5% to 9% for good liquid funds. So by putting money in Liquid funds, you are more likely to get returns higher than the basic savings account. Even the post-tax returns are likely to be more than that of savings accounts.

But remember that unlike savings account, the returns of Liquid Funds are not guaranteed. They fluctuate. Not much but still they do. These are low-risk products and not zero-risk products.

And there have been cases where poorly managed liquid funds saw their NAV crash by more than 7% in a day! Search google and you will find this incident.

So I repeat – Returns from liquid funds are expected to be higher than the savings account but are not guaranteed.

But that’s how it should be – Isn’t it?

In your search for higher returns (than savings account), you are taking higher risk. So the risk of being wrong will always be there. It’s a fair deal.

That was about the returns.

What about liquidity?

Since we are comparing with savings account, liquidity should be discussed.

Liquid funds are fairly liquid(!) but you will usually get your money in T+1 days. So in a situation where you need the money ‘right now’, you will remember the liquidity offered by the savings account – and which is one of the reasons why people park money in those accounts.

So if you understand the above basic points about the liquid funds and are willing to accept the small risks, then liquid fund can be a good alternative for the savings account. But even then, having some money in savings bank account makes sense for immediate liquidity (emergency) and simplicity needs.

But if you are not comfortable with these, then stick with savings account or short term FDs. In any case, you should not be parking a vary large amount in it for long time. So chances of big interest loss are low.

Infact to keep things simple, you can even opt for your bank’s Sweep-In FD facility. It works like this that you can set a threshold limit for your savings account, above which any amount deposited will automatically be moved into a fixed deposit to earn higher interest. Plain and simple.

But you have to pay income tax on interest income from FD every year. Compare this with money kept in savings account where interest of Rs 10,000 per year is not taxable as per Section 80TTA of the Income Tax Act. Also compare this with debt funds, where you will pay tax only when you sell your MF units. So if you end up holding your units for 3+ years, then your gains will be taxed at 20% after indexation – which most often works out much better than pure savings account returns.

Using Savings Account for Emergency Fund?

Yes, atleast a part of it.

It makes sense to have atleast 6 month’s worth of basic expenses in your emergency fund. You already know what emergency funds are for.

Now the first thing to remember about an emergency fund is that it is to tackle emergencies and not to earn high returns (by taking higher risks). Read that again.

From liquidity perspective, there can be a case for putting all of the Emergency fund in savings account. But if your emergency fund size is big enough (like equal to 6 months worth of expense), then you can have a tiered structure in place. for example:

  • Savings Account
  • Fixed Deposits with instant liquidation facility
  • Liquid funds

This way, you will earn much higher than a pure savings account and have enough liquidity at hand from a practical perspective. The exact allocation between these 3 tiers can vary and depend on person’s comfort level and individual situation.

But have atleast 1-1.5 month’s worth in savings account. The remaining fund can be divided into the other two. And if you are beginning to build your emergency fund, it makes sense to keep it simple and have higher initial allocation towards savings account + FD. Later on, even a not-so-evil credit card can help you smoothen out your cash flows.

Finally…

To be honest, there is not much to write about savings account. People use it as it is their default choice to park/receive money, is easy, offers ‘some’ interest and lots of liquidity to them.

Is there a perfect formula about how much money to keep in savings account?

Yes.

You should keep as much in savings account as you are reasonably comfortable with but not too comfortable with. 🙂

Sorry… there is no formula. Though you can take your hints from the section above where we discussed how savings account can be a part of the emergency fund.

How much to invest for Rs 1 Crore in 20 years?

by Dev Ashish Leave a comment

Becoming a crorepati is most people’s wish in India. Atleast for those who still aren’t. And as an investment advisor, I regularly come across questions like:

  • How to get Rs 1 crore in 20 Years by investing?
  • How much to invest in mutual funds every month to get Rs 1 crore in 20 years?
  • How much to invest in SIP to get Rs 1 crore?
  • How to save Rs 1 crore with mutual funds in 20 years?
  • How can I build a corpus of Rs 1 crore in 20 years?

Questions like these clearly tell that the figure of Rs 1 crore still attracts a lot of people. Many of whom continue searching for ways to become SIP crorepati as early as possible.

But why only this exact figure of Rs 1 crore and more importantly, is this amount actually enough?

To be fair, Rs 1 crore was a big amount in early years. But it will soon become a need for most people instead of the wish it is now. A crore today doesn’t mean as much as it used to mean till 10-15 years back.

So imagine what targeting something like Rs 1 crore after 20 years would mean. Not much maybe. But we will get to that a little later.

First let us try to answer the basic questions that people looking to become SIP crorepati have when trying to save Rs 1 crore in 20 years.

I understand that many of you would want to become a crorepati much faster and as soon as possible. But have patience. Good things take time (for most common people). So don’t expect any theoretical nonsense in this post like here are 5 simple tips to earn Rs 1 crore in 3 years kind of stuff.

I will simply share plain, hard numbers… as usual.

How much to invest to save Rs 1 crore in 20 years?

That is the key question.

And some of your next obvious questions would be:

  • How much should I invest every month to save Rs 1 crore in 20 years?
  • How can I save Rs 1 crore in 20 years?
  • How to get 1 Crore by investing in mutual funds?
  • How much to invest in SIP to get 1 crore?
  • SIP for Rs 1 crore
  • And many similar questions…

Given the investment horizon of 20 years, the best asset to invest in is equity. And for most common investors, the goal of Rs 1 Crore in 20 Years is best achieved by investing in equity mutual funds.

We can safely assume that during such long-term periods, equity can deliver about 11-12% average returns (based on historical nifty returns data). And if investment selection is better, achieving even higher rates of return is possible too.

So for the SIP crorepati calculator lovers, let’s see how much you need to invest every month to save Rs 1 crore in 20 years at different rates of returns:

That’s how much you need to invest every month to become a crorepati.

Do note that due to LTCG tax on equity investments, the actual amount that you need to invest will vary and will be slightly higher.

And as you might have already noticed, higher the return expectations, lower the required monthly investment.

But the problem with high return expectations is that it is seldom met. So even if some equity funds have managed to deliver a good 18-20% returns in the past, it is difficult to predict what returns these funds (or any other equity fund) will give over the next 20 years.

So by keeping our expectations low, the chances of ending up with less than Rs 1 crore are further reduced.

That said, it is advisable to have reasonable expectations when investing in equity.

Assuming you earn 12% average returns, then to accumulate Rs 1 crore in 20 years, you need to save about Rs 10-11,000 per month.

That is the required sip for 1 crore and is the exact amount to invest every month to become a SIP crorepati in 20 years.

In long term, equity is the best choice for investing; and for small investors, investing via small amounts monthly via SIP in equity mutual funds is the best bet.

And once you decide to go ahead with this approach to invest regularly, just stick with it. It works. Also, keep monitoring your mutual fund portfolio closely. There will be times when returns won’t be acceptable. That’s fine. There will be good days and there will be bad days. But what’s important is for you to stick around.

So now you have a clear idea about how much to save to have Rs 1 crore in 20 years. And as is clearly evident, it’s not difficult to become a mutual fund SIP crorepati as you have already heard in so many mutual fund SIP success stories.

But what if you are a conservative investor and don’t want to invest too much in equity?

If that’s the case, then you can still become a crorepati using PPF (Public Provident Fund).

You can try out this FREE PPF calculator (Download here) to do your own analysis or read this detailed post on How to save Rs 1 crore using PPF or How to become crorepati by investing in PPF. It will answer all your PPF crorepati related questions in detail.

But let’s come back to mutual funds.

It’s possible that people have other financial goals and do not have that much surplus every month to save Rs 1 crore in 20 years.

If that’s the case, then how do we get around that?

The answer lies in the scenario of Increasing SIP – Starting out with a much smaller SIP amount, investors can slowly increase monthly investments (as per their increasing income and comfort level) to achieve Rs 1 crore in 20 years at a much comfortable pace.

Here is what I am trying to say. You start small and invest more and more with each passing year.

Assuming the investment delivers 12% average returns, let us assume that you are able to increase your SIP by 5% every year.

So, in the first year you will have an SIP of Rs 7500 per month instead of Rs 10-11,000 for the fixed non-increasing SIP. In the second year, the Rs 7500 SIP will have to be increased by 5%, i.e. to about Rs 7900 and so on every year till the 20th year.

To summarize, if your investments earn 12% return and you have 20 years to save Rs 1 crore, you can take either of two options:

  • Invest Rs 10-11,000 every month continuously for 20 years via SIP
  • Start investing Rs 7500 every month in first year and increase this amount by 5% every year.

So as you have witnessed above, it’s not very difficult to accumulate Rs 1 Crore by investing properly in mutual funds via SIP.

The table shared earlier also acts as your crorepati calculator and tells the exact amount you need to invest per month to become Crorepati in 20 years. So hopefully, now you have some useful and actionable information regarding questions like:

  • How to get 1 Crore after 20 years?
  • Investing to create a corpus of Rs 1 crore in 20 years
  • Can I make a corpus of Rs 1 crore in 20 years?
  • How much should I invest in mutual funds to get Rs 1 Crore?

I have already mentioned that the best approach here is to take the equity route for this. Investing in mutual funds is a great way to build wealth. And the earlier you start the better it is. Here is a super proof for the same.

But I must say that picking the right mutual funds for portfolio is very important.

If you can do fund selection properly without being influenced by the wrong people or blindly following mutual fund star rating (which is wrong), then its fine. But if you genuinely need help and aren’t sure whether your investment plan is right or not, it is much better to get in touch with an investment advisor to help you with good recommended equity mutual fund portfolios that are based on your risk appetite and feasible SIP amounts.

To many, Rs. 1 crore may still look like a big scary figure which may also look unachievable. But don’t worry. You can reach that figure if you aim for that and invest sensibly towards it.

Can I reach Rs 1 Crore faster?

Yes you can.

Its possible if you do any or all of the following 3 things:

  • Invest higher amounts in SIP (see the impact in these examples)
  • Invest early and as soon as possible (Super example of starting early)
  • Invest and hope that the choice of your mutual fund schemes is such that it delivers higher than average (or benchmark beating) returns.

Or here is more help at hand for specific questions:

  • How to reach Rs 1 crore in 15 years
  • How to reach Rs 1 crore in 10 years
  • How to reach Rs 1 crore in 5 years

I know you want to run faster. You want to become a SIP crorepathi really fast. You even secretly search online for how to become crorepati calculator. I know it. 🙂

But let us be realistic.

If you wish to know answer to questions like how to become crorepati in 1 year, how to become crorepati in 2 years OR how to become crorepati in 3 years, then you either need to have a decently large amount to invest upfront or you need to be ready to invest a large amount regularly every month for next 1-3 years and hope for good sequence of returns in next few years. There is no other way to it.

But having said that, you should also understand that anything less than 5 years is not much suitable for equity investing.

So chances of achieving average equity returns (of 12-15%) may be lesser for such short period than those of longer periods like 10, 15 and 20 years.

What if your target is lower than Rs 1 Crore?

Perfectly fine.

Many of you may have questions like, how to make Rs 50 lakh in 10 years, how to make Rs 20 lakh in 5 years, etc. Here is more help at hand for specific questions:

  • How to reach Rs 50 lakh in 10 years
  • How to reach Rs 50 lakh in 5 years
  • How to reach Rs 25 lakh in 10 years
  • How to reach Rs 25 lakh in 5 years
  • How to reach Rs 20 lakh in 10 years
  • How to reach Rs 20 lakh in 5 years

Or if you wish to know how much money you can save up by investing a fixed amount every month, then you can use the links below:

Depending on the monthly SIP you choose, it will take you different durations to reach Rs 1 crore with various monthly SIP amount in chosen mutual funds.

And here is how much time it takes to save Rs 1 crore for different SIP investment amounts and different returns:

This image (shows approx. no. of years) and tells how much to invest in SIP to have Rs 1 crore in Mutual Funds.

What will be the Value of Rs 1 crore after 20 years?

Yes. This is indeed a very important question that all people looking to save Rs 1 crore should be asking.

Rs 1 crore may seem like a big amount today.

But after 20 years, it won’t be that big.

The value of 1 crore after 20 years will not be same as today. Rs 1 crore today IS NOT EQUAL TO Rs 1 crore after 20 years.

And that is obviously due to inflation. The value of money does not stay same forever.

And if you are a retirement saver who is asking ‘How much money is enough to retire in India?’ please understand that Rs 1 crore will be insufficient for your retirement. That won’t happen unless you have a very frugal lifestyle and you assume very low inflation levels in future. And Rs 1 crore will not last for very long.

To give you some perspective, here is the value of Rs 1 crore after 20 years of different inflation:

  • At 4% inflation – Value of Rs 1 crore today will be Rs 45 lakh then
  • At 6% inflation – Value of Rs 1 crore today will be Rs 31 lakh then
  • At 8% inflation – Value of Rs 1 crore today will be Rs 21 lakh then

So looking to how to become crorepati by SIP is fine. But just being a crorepati in future won’t be enough.

Inflation can screw up long term financial planning of people. So never ignore the impact of inflation when saving for your real financial goals.

You don’t want to miss out your goals because of it. So when tackling long-term goals like retirement planning, children’s education, etc., always factor in inflation.

For example – suppose the higher education for your son costs Rs 25 lakh today. But your son is just 2 years old today. So he would begin his higher studies when he turns 17-18, i.e. about 15 years later. But the cost of the course would not remain stable at Rs 25 lakh after 15 years. It will obviously increase. So if you begin saving for the goal of son’s higher education, better to target a inflation-adjusted figure for future.

I guess now you have all your answers to the question of how to become a crorepati in 20 years.

But I would still say one thing – when it comes to investing, it is best to focus on your financial goals and do Goal-based Financial Planning. Just randomly aiming for some figure like Rs 1 crore in 20 years or Rs 1 crore in 10 years or SIP for 1 crore may not help. That’s because you never know whether Rs 1 crore would be sufficient for you or not. And this problem is solved easily if goal-based investing route is taken.

I have been quite vocal about the idea of goal based investing for years now. For most people, it makes sense to identify their real financial goals and invest towards them properly.

So go ahead and please find out your financial goals first (use this Free Excel sheet for Goal Planning), understand how much you need to invest for those goals and then do it.

This is the best and highest probability way to achieve your financial goals.

But nevertheless if you aren’t a conservative saver who wishes to just become a crorepati by investing in PPF and rather want to become a mutual fund SIP crorepati and target some fixed figure – then now you have the answer to your question of How to save Rs 1 crore using mutual funds in 20 years OR How much to invest in mutual funds every month to accumulate Rs 1 crore in 20 years?

So go on and do what is needed. Don’t wait too much.

I pray that you all become crorepati and SIP crorepati and more importantly, aim and achieve your full financial freedom in future or even earlier via Early Retirement and not just have Rs 1 crore in 20 years.