Living Paycheck to Paycheck? Solution: Treat Savings as Monthly Bills

A reader (whom I will not name to protect his identity), shared his question in the Financial Concerns Survey:
I am unable to save any money. It is really tough. And it is not that I don’t know the benefits of saving or investing. But even then, I am not able to do it. Every month, all I can manage is to pay my ever-growing bills. Nothing more.
And in past few years, the regular payments I have been making to repay Credit Card debt has also been rising steadily. This once again adds to the fixed monthly bills I have to pay.
How do I get out of this cycle of living paycheque to paycheque? How do I start saving for future?
Now this is a very common personal financial concern. How to save? Leave alone investing. Lets keep it very simple for now. How do we just start saving?

Lets see what exactly is happening here…
This person gets his salary every month. He pays out EMIs (car loan, housing loan, etc.). He purchases all the regular household essentials required for home. He pays fees for his kids. He pays his Credit Card Bills. He takes out his family twice or thrice every month for outings and entertainment.

And then…month end comes. 

He checks his bank account and as usual, is disappointed to see a very small percentage of his monthly income remaining in his account.

He resolves to be a better spender next month. He resolves to save and invest from next month. And this has been happening for quite sometime now.
This was just a sample of how his money flows in and out every month. It can be different for different people. But this gives a rough picture of what generally happens every month in households.

But important point to note here is that the intention of saving (and investing) comes after all making provisions for all the known expenses.
And theoretically speaking, it is wrong.
I know it is easy for me to say it because I am just writing about it. But when one gets bills every month, the first reaction is to clear it off and then think about saving anything.

But you need to understand. Bills are there because of your past actions. But savings are there for funding your future actions.

You can continue denying that you don’t have money to save, after you have already spent all on other expenditures.
But isn’t the responsibility of securing your future rest with you?
I think it does.
Nobody will come and tell you to save and invest for your future. As for writers like me, we will only try to help you get convinced about it. But that is the maximum we can do.
Eventually its you who needs to find a way to save…no matter what. Think of it. You can choose not to save.

But if you don’t, then after some years when your non-earning life starts, how will you find the money to survive? Who will pay for you and your health?
Now you must be getting the picture I want to show you…
Nobody wants to start their retirement with less-than-sufficient amount. And just think of it….what will you tell yourself when you are 60 years old?
‘I could not save when I was young because I was busy spending money on things which were not worth spending on.’
Couldn’t have been sadder than this…
So what can you do? Or rather what should you do to change all this?
I have some thoughts which I think you can tweak according to your own situation and use:

Step 1: Change Your Thinking
I have written about this earlier also in this article, and am doing it again. You not being able to save money, is your own problem. Nobody else’s.
But who will be affected by it?
You (in your future).
So you need to tell yourself that you will do it. You will save every month. And even if it means that you need to cut down on few expenses.
Step 2: Treat Savings as Monthly Bills
Surprised by this statement?

But I am telling you that you won’t be able to save unless you start treating your savings as monthly bills. Bills, which cannot be defaulted. Think of it as something which if you don’t pay, someone will come after you. Just like loan recovery agents.
I know its tough. In case of loan EMIs, you have signed legal contracts, which forces you to pay up every month. But you need to think on same lines when thinking about saving. 

You need to come up with an imaginary legal contract, which forces you to fund your savings every month. Think of it as your monthly savings is your additional EMI.

Step 3: How much to save?
Now this is something which only you can answer. You need to honestly evaluate your current expenditures in details. You need to figure out whether there are some expenses which you can avoid? 

For example, if going out with you family everytime costs you around Rs 1500, and you go out about 4 times a month…can’t you reduce it to 3 times a month?
That will release an additional amount which can flow into your savings?
And I am telling you, that every month there are some miscellaneous expenses which are recurring in nature. But these expenses are more about greed (desires) and less about needs. Generally, some of them can be eliminated. So do this exercise. Have a look at all your expenses for past few months and I am sure you will find some expenses, which you now will find were totally unnecessary.

Step 4: How to do it exactly?
The first thing you need to ensure is that you have about 6 months worth of expenses with you as Emergency Fund. If you don’t have it, then it’s a big mistake. You can never be sure of what might happen tomorrow.
And if in case of emergency, you have to sell your investments, then you will break the process of compounding – simply speaking, you would not become as rich as you could have become.
So lets divide the word Savings into 2 parts:
Savings & Investing.
Right. These are not same. Saving is for short term and Investing is for long term. Personally for me, anything less than 5 years is short term.
So this is what you do exactly:
  1. Start putting some money aside every month in a recurring deposits. Keep on doing it till you have about 6 months worth of expenses saved in it. This is your Emergency Fund.
  2. Once you are done with the above or are close to achieving your 6-Months Emergency Fund, try saving some more amount in Fixed Deposits or Recurring Deposits. I know a lot of people will be against this approach as I could have very well suggested going for mutual funds. But I don’t consider Emergency Funds as Savings. So once you are done with accumulation of your Emergency Fund, you still do not have any savings. Right? So you need to save.
  3. Now once you have accumulated money in your emergency fund and in your savings, time is right for moving on to investing. Investing is what you do when you don’t need the money for more than 5 years. It is done for long term goals like Retirement, Children’s education etc. You can start with a small SIP. And slowly and steadily, keep increasing your SIP amounts every year.
  4. Frankly, a very small SIP may not be able to help accumulate large amounts of money for retirement. But over a period of time, as and when you reduce your unnecessary expenditures and your income also rises, you can increase your SIPs and see its amazing rewards. It can even help you pre-pone your retirement plans! Isn’t it a dream come true?

I have already written quite a long piece. So I better conclude it now… 🙂
So here is another fact which will deter you from starting. When you take the above approach, its possible that you will be demotivated to see the slow pace of savings and investments growth. But don’t worry. This starts slowly but eventually snowballs into something big. 


Another thing which might come to your mind is that you should rather start saving and investing, when you are free from you’re your loan EMIs.

Personally I don’t think that it is advisable to do it. No matter how small the savings are, please start it even if you have a loan running. By not saving early, we pay a huge price by accumulating a much smaller corpus than what would have been possible, had started early.
So that’s it from me…
Do share your thoughts on treating Savings as a monthly bill and SIP as a monthly EMI. Or if you think this approach can be tweaked or if there are any ways of increasing savings, then you can share those too.
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Focusing on Cashbacks & Reward Points Won’t Make You Rich – But There is Something Else that will

If you use mobile apps and websites to buy products regularly, chances are that you would be hearing these 2 words a lot in recent items – Cashbacks & Reward Points.

Now who doesn’t love a little cashback here and a few reward points there?

Nothing wrong with it. It is just an extension of the concept of ‘Saving Money’. But what I feel is that there are many people out there, who are focusing a ‘little too much’ on these cashbacks and reward points. 

And they are doing this for hours at stretch. They are constantly searching for better deals.

Again…I say that there is nothing wrong here. All these are ways of saving money indirectly.

But there is something about the concept of SAVING which we often ignore. There is a limit to how much we can save. You might be earning Rs 50,000 a month. As of now, you are able to save Rs 10,000 a month. And if you can get some better deals and cashbacks, then you might be able to save an additional thousand or two a month more. That’s it.

So all in all, you would have saved Rs 12,000. That’s it. Could you do better than this? Yes. You could have cornered some better deals and more cashbacks.

But there is a limit. Limit to how much you can save. At most, you can save is Rs 50,000. Isn’t it? On an income of Rs 50,000 it is impossible to save Rs 51,000.

The formula is simple:


Income – Expenses + Cashbacks = Savings


You can control your expenses & increase your cashbacks. But only upto a limit… And that puts a limit to how much you can save.

Savings Cashbacks Income


So doesn’t it make sense to focus more of your energy and time on something which you can increase?

I think it does. And I am talking about INCOME part of it.

Honestly speaking, there is no limit to how much you can increase your income. But there is a limit to how much you can save. And I feel that this is the reason why as a country, even after having one of the highest savings rate in the world, we are still poor. We focus so much on savings that we essentially forget, that we can also increase our income…and there is no limit to it.

Just think about it.

This post makes me think about the debate between Earning More Vs Spending Less. Will probably jot down my thoughts and share it with you all sometime soon. What are your thoughts on this…?


PS 1 – By increasing income, I don’t mean salary increases.

PS 2 – The formula above is just to show limitations of savings. It should ideally be (Income – Savings/Investments = Expenses).

Thoughts – Money Linked Mindlessness, Valuations, False Hopes!

You would be lying if you said that you are not waiting eagerly for the First Full Budget, by the First (Real) Full Majority Government, to have come in power in decades…

Like me and other common men and women, you would be interested most in tax related announcements. Whether you will be able to save more taxes this year? Will you get more deductions for your home loan repayments? Or will there be no change at all? 

But think of it….we focus so much on saving taxes….and so little on correcting our money related common sense.

– We buy insurances to save tax!! And to top it all, we call these insurances as ‘Investments‘ under some section 80C. Ridiculous!!

– We want to Invest for few months. But we Save for years. Ridiculous again!! (Why?)

– Everybody wants to know the name of that next multibagger stock. But nobody is ready to put in the effort to find it. Its just like saying that everybody wants to go to heaven, but nobody wants to die. Ridiculous!!

– We want to double our money overnight. And that does not happen. But we will not understand this simple fact, unless we burn some of our hard earned money. Ridiculous!!

– Currently, Indian markets are trading at almost 24X multiples (Proof in image below). But people are buying stocks like all of them are value investors. Ridiculous!! (Why?)

Nifty P/E Ratio (16-Feb-2015 to 20-Feb-2015) – Source: NSE Website


– I have this strange feeling that number of people calling themselves as Value Investors increases during Bull markets. But theoretically, this number should be more in Bear Markets. But surprisingly, its more in Bull Markets. Ridiculous!!

– Everybody believed that new government had a magic wand and it will change everything in a flash. But its almost a year, and frankly speaking nothing much except talks (some are calling it false hopes) have been delivered. But markets are still making new highs every few days. Ridiculous again!!

Apologize my rants 🙂

292 Words to Change Your Financial Life…Today!!

This post is inspired by Rohit’s brilliant poston how to manage your money. I am borrowing few of his ideas & adding a few myself.

  • Never depend on just one source of income.
  • Save atleast 20% of what you earn from all sources.
  • Buy a plain Term Life Insurance of Sum Assured amount equal to atleast 30 times your annual expenses.
  • Buy a health insurance for yourself and those who depend on you.
  • Create an Emergency Fund equal to 6 months worth of your expenses. Till the time you have not created such a fund, don’t think about investing or buying luxury items.
  • Start Monthly Recurring Deposits of 6 months. At the end of 6 months, use the maturity amount to create a FD for 1 year. Repeat every 6 months. To start with, use 20% of your savings (in step 2) to start Recurring Deposits.
  • Use the remaining 50% of your monthly savings to invest in Stock Markets via SIP in Index Funds or well-established, diversified mutual funds. Do not go for sector specific funds.
  • Use remaining 30% of your monthly funds to create a Market Crash Fund (use another RD). Keep saving money in it till the market crashes. When it does, buy quality stocks at low prices. To know which are quality stocks worth buying in market crashes…

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  • Gold, silver and precious stones are good for social or religious requirements. These are not investments. These are insurances against bad times. (To understand this point, just think for a moment that will you sell gold or silver in case prices go up? The answer would be a No. You sell these only when everything else is lost. Period.)
  • And always remember :

          Investment & Insurance are different things.
          Investment & Savings are different things
          Do not consider Insurance as Investment or Saving.

Above might work for most of us and does not require any complex rocket science to be implemented.

So go on….say good bye to your brokers and financial advisors. 🙂

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Mailbag: I have a loan. Should I Pay It Off Before Investing?

Note – I have written about Paying Off Loan Vs Investing for Future debate in detail recently. You might want to read that article – Pay Off Loan or Start Saving & Investing?

In this post, I am trying to give a suitable response to mail I received from a reader named Shivangi. A part of her mail is given below:

I have a loan with outstanding amount of Rs XX lacs. I want to save and invest for future also. But everyone in my family and  friends are telling me to clear off my loans before even thinking about saving or investing for future. Please advice if this is a prudent thing to do or whether one can clear loan and invest parallely?

To be honest to everyone, I may not be the best person to answer this question as I myself have not been in this kind of situation. But I will try to arrive at some conclusion using rational and common sense as my tool.

Readers are welcome to share their own suggestions for Shivangi in comments section.

Mailbag Readers Question Answered

Two Important Considerations

One thing which is not known here is the type of loan which Shivangi is referring to. This is important because different loans have different interest rates and different tenures. For example,

Home Loan : 12% : 20 Years

Personal Loan : 20% : 1 Year

Car Loan : 12% : 5 Years

Loan from Family : 0% : Flexible Tenure

And so on…

Another important thing which needs to be considered here is that when one is planning to invest or save, what is the expected rate of return?

This is because if you are paying 20% in interest for a personal loan, and you want to save your money in fixed deposits, which give an after tax return of 6%, then you are really not being financially intelligent.

Once you have knowledge of these two key important pieces of information, i.e. Interest Rate (&Tenure) of Loan and Expected Rate of return for investments, you need to do a little bit of prioritization…
Debt Prioritization

Now this is very important to understand. A loan taken to invest in a property, which brings monthly rent may not be a bad loan. It is creating an asset which in turn will become a cash-generating machine. But if you buy a car at same interest rates, it is a bad loan as the value of car would depreciate with time. And it will not earn you anything during the time you use it (unless it’s a commercial vehicle).

Please note that by using the word ‘BAD’, I do not mean the bad loans which are a major concern for PSU banks.

Then there is credit card (type-of) debt. Almost everyone will tell you that credit card debt is bad. And generally speaking, they are right. The effective annual interest rate of credit cards is close to 40%!! So in case you do have credit card debt, you should target to clear it off as soon as possible and with a priority greater than anything else.
5 Steps To Invest & Pay Off Loans Simultaneously

Pay Off Loan Or Invest & Save
The Decision

All in all, it is indeed difficult to create an investment or savings portfolio, if you have number of loans running. But it is not impossible. Read the steps below and then I will tell you the most important thing:
  • First of all, you need to recognize the high interest loans (credit cards, personal loans).
  • Get rid of them as soon as possible.
  • Now pay off loans taken to buy liabilities (cars, gadgets) which do not produce a stream of cash.
  • Initiate creation of an Emergency Fund which takes care of unforeseen money requirements.
  • Now if you have any long term, low cost loans (property loan) running, you can think of investing simultaneously as you go on paying off that loan.

And now for the most important and toughest part…

Before you even think of following the above steps, you need to be willing to change your lifestyle as well. And that is because you can only make sensible financial decisions when you are ready to temporarily change and cut down the discretionary expenditures. By discretionary expenditures, I mean buying of goods and services which can be postponed till the time you are financially secure. Just sometime back, I was shocked to know that people are buying wrist watches on monthly installments!! Now according to me that is heights of financial stupidity.

Anyways.. I hope that above information helps Shivangi in her efforts to pay off loan and simultaneously create a stable investment portfolio.

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Unique way of investing in NSC (National Savings Certificate)

If you belong to the same generation as me (born in mid-late 80s), then chances are that you would have heard about NSCs, but would not have invested in them. But if you are of a generation prior to me, then chances are high that some of your money might be invested in this instrument.

NSC stands for National Savings Certificates. These are reliable, tax efficient (tax exempt under section 80C) and guaranteed by the govt. You can read more about it here.

national savings certificate
National Savings Certificate
So why is it that my generation is neglecting this instrument? 
 
The main reason behind this is instrument’s so called ‘lower returns’. Lower when compared to more glamorous returns claimed by riskier ones like equities, mutual funds and ULIPs. Returns offered by NSC are between 8.5% and 8.8% depending on the flavour (5 year or 10 year) you chose. But since interest is calculated six monthly, the effective rate ranges between 8.78% and 9.00%. And that is not all. Investment in NSC can be claimed as a deduction under Section 80C. Also, the interest income is tax-exempted. So returns are much higher than what it seems at first glance. And these are assured returns with almost no risk, unless the govt. decides to default. 🙂

But there is another problem with NSCs. These instruments have a lock-in of 5 years and 10 years. Now this is an extremely long period for our impatient generation. But there is a way in which this lock-in can be managed in a way that an investor receives some money at the end of every year. The approach which I’ll discuss increases the liquidity of NSCs, with a little help from Fixed Deposits. This approach reduces the return a little. But that is a price we need to pay for increased liquidity. 🙂
I’ll refer to this approach as the NSC-LADDER. We use NSCs and Bank Fixed Deposits (for initial period of the strategy) in this approach. So here it goes…
Suppose at the start of time (Year 0), you have Rupees One Lac (Rs 1,00,000) to invest. Though you are ready to invest for long term, you are not very comfortable with the lock-in of 5 years (or 10 years) and want to invest (safely) in some (reliable) instruments which have some amount of liquidity. The interest rates on NSC & FDs of different tenures is as follows – 
 
Interest Rates NSC
Interest Rates – NSC & Fixed Deposits

 

You start by dividing this one lac into five parts of Rs 20,000 each. You invest first in a bank FD with maturity period of One Year. Invest the second in a FD of 2 Years, third for 3 years, fourth for 4 years and finally fifth for 5 years.
After this, what happens is that you receive maturity amounts from respective FDs at the end of first, second, third, fourth and fifth year. The maturity proceeds are in turn invested in 5 year NSCs starting from start of Year 2, 3, 4, 5 and 6.

NSC Ladder : Click to enlarge


This is what exactly happens –

  • 1st Tranche: Invested Rs 20,000 in FD for One Year – Received Rs 21,600 at end of Year 1 – This sum is invested in NSC for 5 Years – Received Rs 32,750 at end of Year 6.
  • 2nd Tranche: Invested Rs 20,000 in FD for Two Years – Received Rs 23,545 at end of Year 2 – This sum is invested in NSC for 5 Years – Received Rs 35,699 at end of Year 7.
  • 3rd Tranche: Invested Rs 20,000 in FD for Three Years – Received Rs 25,901 at end of Year 3 – This sum is invested in NSC for 5 Years – Received Rs 39,271 at end of Year 8.
  • 4th Tranche: Invested Rs 20,000 in FD for Four Years – Received Rs 28,232 at end of Year 4 – This sum is invested in NSC for 5 Years – Received Rs 42,805 at end of Year 9.
  • 5th Tranche: Invested Rs 20,000 in FD for Five Years – Received Rs 30,073 at end of Year 5 – This sum is invested in NSC for 5 Years – Received Rs 45,597 at end of Year 10.
As illustrated above, you keep receiving maturity proceeds at the end of year 6, 7, 8, 9 and 10. These proceeds in turn can be reinvested in further NSCs of five years, maturing at end of year 11, 12, 13, 14 and 15. This system creates a Ladder-like System, where every year there is a payout. Our initial concern was that NSCs have a long maturity period with long lock-ins. This results in money getting stuck and reduction in liquidity. But this LADDER approach addresses this concern and generates cash (maturity proceeds) at the end of each year.
Money available at end of each year : Click to enlarge
Now, you can continue this ladder for as long as you like and see the magic of compounding take shape. I know it is tough to plan for 10-15 years. But here, the best part is that once you have invested Rs 1,00,000 in first year, it keeps on rolling without any further investments. Also, interest earned by NSC in first 4 years is tax exempt as it is reinvested and paid out only once at maturity. So tax benefits are immense.
So, is this product for everyone?
No. It is for those who believe in long term wealth building using stable, reliable and risk free instruments. NSC can be one of the instruments if you want to diversify your portfolio.

Pay Yourself First: What does it mean and How to do it?

Pay Yourself First. This has often been referred to as the Golden Rule of Personal Finance. So what exactly does it mean and how can you do it?


Pay Yourself First: What does it mean?

Paying yourself first means to invest or save before making any expenditures. This is equivalent of saying that you save first and then spend, rather than spending first and saving later. So when you pay yourself first, you make saving a priority.
Pay Yourself First
Save & Invest before Spending

As soon as you receive your paycheck, you should pay yourself first, i.e. Save & Invest, and then move on to spend anything. But this is easier said than done. For many people, it just seems too hard to save their money first because they feel that they have too many loans, bills and other commitments.  So how do we do it?

Pay Yourself First: How to do it?

Once you have decided that from now on, you are going to pay yourself first, it is time to take some action. And the best way to do it is to AUTOMATE IT.

  • In case you are planning to save for your retirement, ask your employer to automate your PPF, EPF, VPF deductions. In this way, you would have saved for your retirement, before even getting any money in your wallet!! 🙂
  • If you are interested in stock markets, you should make regular monthly investments (SIP) in good mutual fund schemes. This can be automated via an ECS mandate to your bank.

So, now that you have understood the concept and importance of Paying Yourself First, what is the best thing you can do right now??

ppf vpf
You Action Plan to pay yourself first.
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Don’t Invest for Short Term. Don’t Save for Long Term

Many times, we use the words Savings & Investing interchangeably. Some people don’t even realize the difference between these words.

 
One should not invest for short-term goals. One should not save for long-term goals.
 
So what should one do?
 
One should SAVE for short-term goals. One should INVEST for long-term goals.
 
By SAVE, I mean putting money in Savings Account, Fixed Deposits, Debt Funds, etc.
By INVEST, I mean putting money in good mutual fund schemes, stocks of good companies, etc.
As far as the short and the long terms are concerned, it totally depends on what you think. But generally,
  • Short-term is less than 3 to 5 years
  • Long-term is more than 5 years

So don’t forget. Don’t invest for short term and don’t save for long term. 🙂