We find it easy to spend time on complex things. This is not surprising. Complex is exciting and simple is boring, especially when it comes to finances. You are more likely to spend hours searching for the best stock mutual fund than spending 10 minutes buying a term insurance plan.
Hence, it is not too difficult to overlook simple aspects. When it comes to financial planning and investments, simple things matter a lot, perhaps even more than complex ones.
For example, buying adequate life insurance is a million times more important than finding the best stock fund. Everyone knows the importance of life insurance, but it usually doesn’t get the priority it deserves.
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Diwali, the festival of lights, is the symbol of the victory of good over evil. In some parts of India, the day after Diwali is also celebrated as the New Year. What better time to step back, review your finances, and make sure you have yours Personal finance basics covered. Here is a small list to get you started.
- Get your insurance right
If you go wrong with your investments, you will have a second chance. There is no such luxury if you go wrong with your insurance. You may not be there to correct your mistake.
Therefore, consider events that can negatively affect your family’s finances. The most common adverse situations are death, prolonged hospitalization and accidental disability. During such events, family finances can deteriorate very quickly. What should you do?
Well, you cannot prevent adverse events from occurring, but you can purchase insurance to reduce the financial impact of such events.
By purchasing sufficient life coverage, you ensure that your family can close their dream home loan and maintain a comfortable lifestyle. You also make sure that money is not a hindrance and that your children study at the schools and colleges you wanted. By purchasing sufficient health coverage, you ensure quality health care for your family and that prolonged hospitalization of a family member does not penalize you financially.
An accident can result in death, disability, extended hospitalization and recovery period along with a potential loss of income due to disability. While life and health coverage may cover death and hospitalization, accidental disability coverage is required to compensate for loss of income due to disability.
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Therefore, it is imperative to purchase adequate life, health and disability insurance. Adequacy is also important. Don’t just tick the checkboxes. Although there are many ways to calculate coverage requirements, a good rule of thumb is 10-15 times the annual income for life insurance and ₹ 5-10 lakh per person for health insurance.
- Don’t confuse investments and insurance
Unit-Linked (ULIP) insurance plans and traditional life insurance plans offer the dual benefits of insurance and investment. While investors love these products for both tax saving and wealth creation, they are high cost products and provide lower returns.
When it comes to investing, it’s acceptable to make a slightly suboptimal choice if it helps improve investment discipline. Therefore, the biggest drawback is not that such products offer poor returns. The biggest problem is that you may be underinsured.
If you need ₹ 1 crore lifetime coverage and wish to purchase through a ULIP or traditional plan, you will need to pay an annual premium of ₹ 5-10 lakh. Very few people can afford such rewards. The simplest trade-off is to buy the coverage you can afford. So if you can afford an annual premium of ₹ 1 lakh, you will buy coverage for ₹ 10-20 lakh. However, in the event of premature death, your family will only receive ₹ 10-20 lakh. You know they will need a lot more.
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A term insurance plan is the best and cheapest way to purchase life coverage. You can buy coverage of ₹ 1 crore starting at ₹ 10,000 per year. Therefore, your premium paying ability will not affect your life coverage.
By keeping your investments and insurance separate, you ensure that you purchase adequate life coverage and free up capital for low-cost investments.
- Make goal-based investments
Don’t invest just to save on taxes. Invest to achieve financial goals.
Consider a debt-rich portfolio for short-term goals and a stock-rich portfolio for long-term goals. For short-term goals, you can hold money in fixed deposits, recurring deposits, liquid funds, or money market funds.
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For long-term goals, build an asset allocation portfolio. Allocation to riskier assets such as stocks depends on your age and risk appetite. Rebalancing at regular intervals. Take a rules-based rather than instinct-based approach to investing.
If you’re wary of risky investments like stocks and stock mutual funds, start small and build comfort before committing more significant amounts. SIPs are a very useful tool. If you can’t select investments on your own, start with a couple of index funds or seek professional advice.
The costs are guaranteed. Returns are not. Therefore, choose simple low-cost investments.
- Keep the family informed
In December 2020 over ₹ 1.5 lakh crore were not claimed at Indian banks and insurance companies. The LIC alone had around ₹ 21,000 crore of unclaimed funds and these are only for non-term insurance policies that have matured.
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Your family cannot apply for life insurance unless they are aware that you have purchased a life insurance policy. This does not even count as an unclaimed amount. This would only count as a lapsed policy.
Your family will not approach a bank, AMC, or insurance company to access your investments unless they are aware of your investments. Such investments and insurance plans are not good.
Therefore, buying adequate insurance is only half the job. You must inform your family of your investments and insurance policies. Compile this information into a physical folder or document and share it with trusted family and friends. Write how you would like the family to use the life insurance proceeds.
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Get your nominations. This will help your family access your investments easily. A will can help avoid disputes when distributing assets.
Also, your assets need to be managed well even after you are gone. You need to help your family learn how to manage investments and put them in contact with a trusted friend / advisor who can help them manage money in your absence.
(Deepesh Raghaw is a SEBI registered investment advisor and writes to www.PersonalFinancePlan.in)