Last week the children’s friends visited us. These were young couples in their thirties. Still planning a family; excited about travel and the world; unwilling to lean on parents; and so on. When we began to talk about finances, their stories of financial regret came out one after another. That fodder was enough for this column.
We all make mistakes with our personal finances. But the common threads in these children’s lives were quite fascinating. These are children brought up in different cities, mostly by upper-middle-class parents. But they seem to have a similar set of regrets and future plans. Here is the list.
First, not taking the education loan seriously. All of them took loans education before they did post-graduation. The parents are guarantors on the loan. They enjoyed an initial moratorium and then the loans got due. But they were busy spending their newfound salaries on themselves. They presumed the loans would just accumulate a nominal interest and that they would eventually pay. Until it began to affect their credit scores; or the parents were approached by the bank; or it became public knowledge that they were defaulters. They scrambled and managed to rework and pay. But they believe they could have avoided that.
Second, not bothering with the large bills and spends. One of them was overpaying on the electricity bill for years before complaining and fixing it; one was getting auto-debited for subscriptions and updates on the credit card that he never used and did not bother to stop; one was spending every week on her hair and nails, and paid hefty salon bills, telling herself she deserved it; another was buying online almost every night; and another was routinely paying restaurant bills of friends. The sense that every rupee mattered took a long time to sink in. They severely regretted these careless spends and don’t identify with these anymore.
Third, not being concerned enough about the credit score. It was only when they needed a loan that they realized how callous they had been about the credit score. The unpaid education loans; the delayed personal loan EMIs; and the uber-conservative use of the credit card all came to bite them. They realized that they had to build a credit history. One that showed they can take a loan and repay it. They continued to rib their debt-fearing friend for a poor credit score.
Fourth, saving too much in long term illiquid assets. One of them maxed out his 401K savings; another replicated that in India and contributed a VPF and PPF apart from the PF; and another only bought long-term bonds. They all believed that if they stashed off their money in long-term products with difficult withdrawal terms, they would be compulsory savers. Except they needed liquidity. For their short-term needs. As youngsters they had many short term financial goals such as marriage, holidays, higher education and so on. Locking up money in illiquid assets was a bad idea. One of them had bought a flat in a city he then lived in, convinced that the EMI was a forced saving. He earns a paltry rent on a house he has never lived in.
Also Read: Why young earners must avoid large, long-term inflexible investments
Fifth, not having adequate insurance or the right kind of insurance. Some of them had Ulips on which they had no clue what amounts have been actually accumulated. Some had very small term policies. It was shocking to them when we discussed insurance as the backup until they built assets of their own. They had routinely dismissed the calculations their agents showed them as sales pitches. Insurance is the shield one needs before one can stabilize financially and have enough wealth that can replace their incomes. Without that, the financial status remains precarious and severely exposed to risks of unknown events.
Sixth, not taking the time and effort to educate themselves about personal finance. Many even outsourced their simple and uncomplicated tax returns. They did not check their bank or credit card statements. They did not know what a TDS was and what a refund is. They thought time value of money is a theoretical construct and that diversification is a textbook concept. When they began to figure things out in their 30s they realized that the personal finance concepts and principles were simple and rather intuitive. It did not take too long to learn the basics; not was it too difficult to understand and implement.
How young, new earners can create wealth as they earn
Smart money moves for new earners
It is not unusual for a first-time earner to use the very first pay check to buy gifts for parents or siblings, treat oneself by splurging a little or buy a longed-for gadget or luxury item. However, after this initial euphoria subsidies, one must think about the future and the most efficient way to put this monthly remuneration to long-term wealth creation. Given below are 10 golden rules of managing money for millennials and first-time earners, these will help you ensure that as your income increases, your wealth grows simultaneously too.
Inculcate the habit of saving
Saving is defined as the difference between your salary and your regular expenses. Once you have spent on your short-term needs and bills, get down to detailed financial planning to target mid and long-term goals. The first step should be to compute your savings rate using an income and expenditure statement. Ideally, the savings rate should be at least 30% of your pay. Analyze the reasons if it is less. It could be your starting salary is low or your expenses are very high. Should you be worried if you are saving more than 30% of your salary? Certainly not.
Go for the medium
The next step entails making a holistic financial plan. List all your financial goals and the time you give yourself to achieve it. Experts ask you to target mid-sized goals— where the outlay is less than Rs 1 lakh— first. Planning for mid-sized goals in the initial years of your career will also have a positive impact, demonstrating the power of financial planning.
Create emergency corpus
This is probably the piece of advice you have heard the most, and rightly so. We find ourselves amidst a global crisis, so creating a contingency corpus, one that ideally covers at least six months’ expenses, is the need of the hour. This buffer amount will help those with education loans to avoid default in case of job loss. Since it is difficult for first-time earners to postpone small and mid-sized dreams till a contingency fund is created, they can strive to achieve both simultaneously.
Temper your increment expectations
Financial planning calculations, especially for the big-ticket goals such as buying a house, making provision for marriage expenses etc. are based on expected future salaries. Young people tend to make the mistake of assuming very high future salaries by extrapolating the huge initial salary or high increment they get at the onset of their career. It is a grave mistake to assume that high increment rates will continue till retirement and make financial plans based on them. Covid-19 pandemic has shown us the worst-case scenario, Ie of a salary cut instead of a hike.
Further, a low starting salary should not deter you. Don’t be disheartened, instead, be patient and upskill to get a better job. Invest in yourself by building a greater range of skillsets.
Seventh, they did not discuss finances with their spouses early in their relationship. While they understood that attitudes towards money could be different, they chose the path of least resistance. Your money and my money; accounts were different; spending was different and no questions were asked. Now that they are planning a family and considering investing in a home, the need for ‘our money’ has arisen as a third category. They are still finding out what the others’ preferences and habits are; they still do not know how to make the rules both can follow.
Not everything is pessimistic though. After all they have only just navigated the first 10 years of adulthood. There was enough time to earn, save, invest and build wealth. When I said next 30 years, they unanimously stopped me. Who wants to work that long, they gasped. They plan to max their earnings and retire by the time they hit their 40s. They will live in a quiet place, close to nature, home school children, grow food and eat from their farms, and travel the world to experience more. Their plan was some version of this romanticism, give or take a few variants.
How would they fund it, I ask. We will have a corpus to generate some basic income to cover the essentials. We will engage in some income-generating activity that will offer some buffer for indulgences and travel. We don’t plan to leave behind a big bequest; nor do we have the need for chunky assets, we just seek work-life balance, they declared. All of them are working 70-80 hours a week on the jobs they say they love but can’t keep doing for life. This front-ended finance model sounds interesting, I thought.
However, if 20 years is all there was for earning money, 10 years of making mistakes was costly I said, to sheepish agreement from all of them.
(The writer is Chairperson, Center for Investment Education and Learning)
Investment guide for those starting their personal finance journey
Investing guide for beginners
If your financial goals include financial independence, keeping your savings in cash isn’t the way to go. Growth is absent if you do this and your money will not grow in value. If you are on the onset of your personal finance journey and are keen to harness the power of compounding, in other words ready to invest, you may not know where exactly to begin, like many millennials and young adults. Here is a beginner’s guide to investing that outlines everything new investors need to know to get started.
Holistic portfolio
New investors should work towards building a diversified investment portfolio that contains both defensive and growth-oriented instruments. By building a portfolio with a fair amount of defensive protection built-in, it will be easier to avoid the temptation to sell during the volatile times. Hence, your portfolio should contain a mix of equity stocks and mutual funds for growth, bonds, deposits and gold for defensives.
Portfolio management
Before you dive into the investing part of it, think about how you wish to create and manage your portfolio. Unless you have all the free time to study the markets ever so often, learn chart patterns, analyze tools and understand the business models/working of all the companies, you may not be sure of your moves. A more efficient alternative is to consider investing in indexes and ignore the ups and downs of the market.
Your investment strategy
Your investment strategy can be based on an assessment of your own temperament to invest, risk appetite and need for control or supervision on investments. This will further help you figure out whether you want to take active part in managing route or simply leave it to the benchmark index or ETF.
Unlike actively managed mutual funds, ETFs do not try to beat the market. On the contrary, they are designed to track the market. Generally viewed as relatively safe and cost-effective long-term investments, ETFs are a solid choice for new investors. All you need is a demat account. In fact, ETFs are preferred by young individuals who are either not familiar with the intricacies of the financial markets or may not have the time on a regular basis to track them. Understand if you want to take on this type of passive approach to your investments.
In short, here’s what you need to do
One need not be rich or wealthy to start investing. This is a feat anyone can do, no matter how far along the road it seems because you are just starting out. The sooner you start, the bigger your corpus will be. Put together an investment strategy you are comfortable with, stick to it over the long term and take emotions out of the equation altogether. Day-to-day market fluctuations and even major dips like the one we saw in 2020 shouldn’t deter you, make peace with that because this is how markets function. Start small, diversify the portfolio, be patient.
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