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.
Here are those 6 mistakes that you should avoid:
#1. 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.
#2. Undervaluing long term expenses when considering retirement
When investing and saving for your retirement, the most important point to consider is the correct valuation and estimation of health care and other long term expenses, owing to the process of aging.
Health care and other long term costs increase with age, and incorporating these expenses correctly is necessary for an effective retirement plan. Not doing so would compromise your savings and finances during your years of zero income.
#3. Not saving enough or investing when you are young
The initial years of your investing life must be focused on savings. The rate of savings during that time should be more than the rate of returns.
An effective investment plan can be made, gradually, once you are saving consistently and as much as you can in those initial years. Remember, the earlier you start, the more time compounding has to double or triple your money.
Savings should be made not just by controlling daily expenditures, but also by considering the money paid towards taxes. Figure out a good plan to maximize your savings during the initial years of your investment life. If you are in a higher income category, tax savings (through the correct choice of investments) should be important.
#4. 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.
#5. Making financial planning all about investing
It is a common mistake to believe that financial planning is all about investing. It must be noted that investing is just one part of an ideal financial plan that you must make to meet your long term goals.
It is important to focus on day-to-day budgeting, appropriate insurance cover (for everything of real value to you, including your health) and smart tax decisions, to make an effective and appropriately long term financial plan.
#6. Thinking that Insurance is about saving tax
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.