Financial Planning is a process which helps an individual to find out the shortest route between where you are and where you want to go financially. Effective financial planning is about building your wealth gradually and consistently. It entails setting specific goals, saving regularly, investing those savings, and protecting your assets. There are, however, some worryingly common financial planning mistakes that can keep you from doing any good to your money.
1. Not having a long-term financial strategy
As the old adage says “by failing to plan, you plan to fail”! This is by far the most common mistake, but luckily it’s also the easiest mistake to rectify. It’s never too late to seek professional advice and set down a plan for your financial future. By outlining where you’d like to be in 10, 20 or even 50 years, you can then examine your options to reach your goals. Remember that in dollar terms, the capital built up over the term of your working life may have to last another 20 to 40 years in retirement. So living for the moment during youth or early family years can make it difficult to live a financially prosperous life during retirement.
2. Ignoring inflation
When planning finances, the time value of money, or how money loses its value over time is usually ignored by the vast majority. While incorporating increase in income with time, it is vital to consider the increase in expenses and the drop in the value of money thanks to the annual overall increase in prices of common goods and services. Being over-dependent on “safe” investments such as saving accounts, Bank FDs, and government bonds will lead to your portfolio giving returns at a rate lower than the inflation rate. Ignore inflation and you might just see your savings slowly erode away while your financial plan goes haywire.
3. Failing to work within a budget
Pay yourself first; after all, who deserves it more? It is important to pay yourself first. And more importantly, you should save money first also. Capitalize on the miracle of systematically saving money and the effect of compound interest. In addition to saving and investing every month, you should try to increase the amount you save every month. Try to increase your savings rate until you feel a small pinch. The pinch is where the level of your savings begins to have a slight adverse impact on your standard of living. Keep your expenditures at a lower rate than the increase in your income. Not having or not staying within your budget and not keeping your cash flow under control are two of the major barriers to any wealth accumulation plan.
4. Lack of communication
Whether it means communicating with your spouse, children, financial professional or estate planning attorney, you can’t be the only one who knows your financial and legal information. You might think you’re just being private, but if you’re incapacitated or die, you leave loved ones stressed not knowing your wishes or where to find your estate plan where you’ve expressed your wishes. This often leads to family arguments, and it doesn’t need to be that way. Make sure loved ones know where to find your bank, investment, retirement account, insurance and estate planning documents in the event they need to act on your behalf.
5. Skipping saving while you’re paying off debt
It’s tempting to put all of your extra money toward paying off debt, but don’t forget to save while you’re doing it. Establish an emergency fund, and then think about expenses such as car repairs, new car savings and pet bills. If you don’t have that money put aside, you’re likely to use credit cards to cover those kinds of costs and will never eliminate the cycle of debt.
6. Not understanding the value of time.
We all know that the truth is that there is rarely a quick fix to any issue! When you discover an investment opportunity that looks too good to be true, it probably is. When interest rates are low this is good news for people with mortgages, however it’s bad news for those trying to save. And all accounts of the share market in the media show the volatility. Be aware that a high return brings with it a higher degree of risk. When it comes to investments, it may be better to recognise and ride out the short term ups and downs. The best option is to refer back to your financial strategy to ensure that your investment is in line with your objectives.
7. Considering insurance as a tax saving tool
Far too many individuals make this common mistake in India. Insurance of any kind is an expense and not an “investment”. Buying insurance (life or health) just to save tax is one of the worst ways you can spend your money, unless you actually need the insurance. Health Insurance in today’s expensive healthcare scenario is a must. Life Insurance is a must only if you have dependents. Think about the utility of the insurance first before you think about the tax benefits.
8. Low protection to the assets
Too many people invest in the equity market without even thinking about the assets they own and end up getting in trouble. To get rid of such a situation, allocate your money into different asset classes which will ensure that your risk is distributed and your assets are protected from liquidation. Always make sure that you have adequate amount of life and health insurance, protection from disabilities, car insurance, home insurance, umbrella policies to cover yourself against liability loss. Diversification of your portfolio is important because this will provide a safety advantage and will lower your risk.
9. Investing too aggressively or too conservatively
A common financial advice is that people falling into the age group of 20-40 years should invest aggressively. Although this idea makes sense, it is necessary to invest using reasonable logic and not to be blind towards risk. Exposing yourself to more risk than your goals allow for may end with you losing too much and, move you completely away from investing in the future. Just as being too aggressive is not recommended, being too conservative when investing has its downside too. Being too conservative when investing can lead to loss in the value of your money. Stocking up cash in your savings account will bring down its value over a period of time. Rs 100 today would be practically worth half its value, in less than a decade, if it stays just in your bank account. It is important to invest across investment options with varying degrees of risk, to make your money grow at a consistent and an increasing rate.
10. Neglecting to get professional advice
Naturally, everyone has an opinion on financial matters and how to get the most from your hard earned cash. But it is important to remember that not everyone is fully aware of your particular situation, needs and goals. It is important to keep yourself informed on financial matters. It is often helpful to discuss issues with friends and relatives, however, professional advice is essential. An educated and reputable professional can relate their advice to you personally, as well as assisting you when your circumstances alter, legislation changes or movements occur in the industry.