Category: Tax Planning

The path to achieving financial wellness starts by inverting the equation of ‘income minus expenses’ into ‘ income minus savings’.

Does moulding your money habits seem too overwhelming? Does thinking of how to build a road towards the future and get started makes you feel at the end of your wit? You don’t need to grasp at the straws anymore with this budgeting trick! 

The 50/30/20 Formula

The 50-30-20 budgeting rule suggests the division of income after taxes into obligations, goals and splurges.

50% of your income – “Must-Haves”

Warren Buffet calls the Must-haves, “ the heart of your Balanced Money plan”. This section of your income is dedicated to fulfilling all your basic needs which are crucial for your survival. These are the expenditures you need to incur on a day-to-day basis. It also includes minimum payments you need to make on your debts. Such payments may include groceries, utilities, housing, car payments, etc.

30% of your income – “Wants”

Expenditure on items that fall in this category is a choice. The main aim of such expenses is up-gradation of your lifestyle. For instance, buying a Mercedes instead of a more economical Honda. 

This 30% bucket includes vacations, entertainment, gym fees, hobbies, pets, eating out, cell-phone plans, and cable packages. These are things you don’t really need to get by.  A want for some people might be a need for others. For example, some might have photography as a hobby and some might want to pursue it as a career. So such people might spend more on photographic equipment and lessons.

20% of your income – “Savings” 

The remaining 20% of your savings goes to an often overlooked part of your income: your financial goals. This includes debt savings and investments.

Save 20% of my income? That’s impossible! 

Getting your expenditures into the right bracket and balancing your income in these exact proportions might not be possible for you immediately. There might be a real circumstance preventing you from hitting the right equation. 
If yes, then hold on to this key: If you can’t get your money in the exact balance, get as close as you can!
If not 20% of savings, then can you save 15% of your savings? If you can’t bring down your obligatory expenditures to 50%, then can you bring it down to 55%? A 55-30-15 plan is better than a 60-40-0 plan. 

Make Adjustments where Needed.

Granted, the 50/30/20 plan isn’t the only percentage-based budget. All percentage-oriented budgets are entirely customizable.
The percentages you set are adjustable based on your fluctuating income. Perhaps a 60/20/20 or 40/20/40 works best for you. If you just got a raise, for instance, you might be able to focus more on paying off your debt. But, if your rent rates have risen, it could mean cutting back on the amount you set aside for your “wants”. 
Hence, look at your existing finances to set a plan for the long term! You can tweak and revise your spending/saving categories according to your current earnings and lifestyle, allowing your budget to do justice to your current financial situation. 

As you take stock of the triumphs and blunders made in 2019, the new year is the best time to brush up on the basics and become a better investor.

Most mistakes investors make are due to their own biases which keep them from making rational decisions. These biases are psychological – they are basically ‘hard-wired’ into us as humans, and in many cases are very helpful in making decisions. In investing, however, they often lead us to poor decisions and loss of returns.

Here are some pitfalls you need to avoid throughout the investment journey as we enter the new year.

1) Out with the old and in with the new

As the difficulty in the market escalates, investors tend to concentrate their portfolio on an investment strategy that has worked previously, thus missing an important turning point.

Your investment strategy needs to adjust as the tides turn in the investment market.  One should always reminisce that no asset class is designed or programmed to move in a straight ascending line. Warren Buffett has summarised it well in 18 words: “Volatility is not the same thing as risk, and anyone who thinks it is, will cost themselves money.”

For instance, temporary losses is often a cause of panic among investors. They tend to sell when equity asset prices start falling, whereas, actually they should be making purchases in a declining market. On the other hand, when equity prices are on the rise, investors generally tend to become avaricious expecting further gains, while that may not be the right move.

Instead, it is recommended to keep an open mind when it comes to investing and make sure you have a balanced, diversified investment mix.

2) Don’t let saving cost you money

Letting idle money waste away is a fool’s errand leading to lost opportunities. “The one thing I will tell you is the worst investment you can have is cash,” is how Buffett explains on how to view holding cash. If you chose to keep ₹50,000 under your mattress for 5 years instead of investing it with a compound interest of 10%, you choose to forego on a return of ₹30,592.05. 

If you’re just saving and not investing, you’re setting yourself up to lose money in the long run. That’s because inflation causes prices to rise, which makes money less powerful over time. The anecdote of losing money to inflation is investing.

3) Quit being silent about money

Not only are we bad at dealing with money, but we’re also bad at talking about money. But, the good news is that the more we talk about it, the more confident we are and the more information we have to make better and less stressful financial decisions.

Sharing and comparing your financial wins and fails is a great way to keep yourself motivated and pick up valuable tips about how you can improve these circumstances more quickly and efficiently. Within this framework, one needs to bear in mind the fact that WHO you speak to on the topic of money and finances does matter. We at CAGRfunds, give you that “second opinion” you need and set you on track to meet your financial goals. 

Mistakes are part of the investing process. Knowing what they are, when you’re committing them and how to avoid them will help you succeed as an investor. Watch this to take better control of your finances in 2020.

Success in personal finance is based on some simple practices followed by individuals over a long period of time. Charlie Munger has summarized it well in 15 words:

Spend less than you make; always saving something. Put it into a tax-deferred account.

I often feel people under-appreciate the importance of tax deferral for their investments. I have created a small calculation which highlights how tax-deferral in itself has a huge impact over the long term.

Let us discuss two tax systems applicable to investments:

Accrual Based Taxation: In the above taxation one has to pay tax on the income generated every year and the actual tax is not dependent on whether an investor has redeemed his money. A simple example for this is a fixed deposit where you pay tax on an annual basis irrespective of maturity/redemption of fixed deposits.

Cash Basis of Taxation: Under this taxation structure tax applicability is based on actual redemption/maturity. An investor does not need to pay tax unless he makes an actual redemption. This helps an investor to take advantage of deferred tax until he redeems his investments. Some examples of such instruments are NPS (National Pension Scheme), Mutual Funds (MF)

Now let us assume two individuals earn a similar return over a period of 30 years which is 15% and are taxed at the same rate which is 30% of the income.

Investor 1: Ramesh: An investor invests 10lakhs in an investment instrument (say FD) at 15% for 30 years and is being taxed at 30% every year. (Applicable taxation is accrual basis)

Investor 2: Rakesh: An investor invests 10lakhs in an investment instrument (say MF or NPS) at 15% for 30 years and is being taxed at 30% only at the end of 30 years. ( applicable taxation is cash basis)

When we run these investments over 30 years we realize the importance of deferred taxes on long term investment portfolio. Let us see the results:

Ramesh will receive Rs. 1.81 cr. and which translates to a CAGR return of 10.50% (post-tax). Rakesh will receive Rs. 4.06 cr. and which translates to a CAGR return of 13.61%. (post-tax). That’s a whooping difference of 2.2 cr. just because of deferred tax advantage.

So, what we conclude from the above example is that a simple deferred tax advantage available to us as investors if understood well and implemented in accordance to our long term financial goals will have a significant difference to our long term wealth.

In order to properly balance living in a sometimes chaotic world, it is important for you to have beneficial attitudes. This is especially important when managing your finances. With very simple but effective steps, this too can be very easily done.

Here are a few ways of how some of our clients implemented a mental shift to achieve their wealth goals:

1. Mapping every saving to a goal – While plans don’t work often, having one in place helps anyways.

Goal-oriented savings create discipline and accountability in one’s behaviour which helps to remain focused on the objective. Savi & Vinod, a newly married young couple started saving up for a house as their long term goal. With an expanding family and a few emergencies that sprung up, at times they noticed that their contribution towards their dream home had to be re-looked at in a manner that they could still manage the rest of their expenses carefully and not ignore their ultimate goal or delay the time frame of when they charted out to achieve it. Today, after 8 years of starting to invest, they are very close to achieving their goal comfortably.

2. Starting to invest is important, even if the amount is small – Cost of delaying investment is a huge opportunity cost our minds cannot see.

Better late than never applies to everything good in life. We had a set of clients who realised the importance of savings only after the first few years of working. Being brought up in very privileged homes, while the awareness existed, it did not necessarily manifest itself in taking action towards it. Those few years when there was income generated but not invested was a missed opportunity to create wealth. However, now that there’s a start, there should be no looking back.

3. There is world beyond banks when it comes to savings and investments.

This is no new news but traditionally banks are the first thought that come to the mind when thinking of savings and investments. While some of our clients have approached us with the same mindset, they were quick to learn and understand the options beyond banks and have been reaping the benefits of it too.

4. There are no free lunches – Be comfortable to pay experts if you know managing your money is something you are not good at.

Handling money is very critical but you may not be always savvy of the best ways to do it. Luckily, you have us – financial planning experts. Engaging experts who understand your needs and wants and help you plan your finances accordingly, is very easy and doable. Just as practical as it is to pay a specialist who cares for some specific need of yours, paying financial planning experts for their services is no different.

5. Enjoy the process of savings – Just like we enjoy the process of using discount coupons against our purchases.

We create wealth not just to live a comfortable life, perhaps one of our dreams but also to ensure that we are secure in various ways. Being able to create that security for ourselves is empowering and should be a relieving feeling, not a stressful one. After all, working to achieve something is motivating enough when you know that it’s a reward that you’re creating for yourself over time.