Financial planning: The advantages of starting early
25 Dec 2022
When you are young, especially in your early earning years, financial planning is perhaps not even a priority. Coming off a long period of financial dependence on parents, the younger generation is typically always inclined to spend their hard-earned money. Travelling with friends, attending concerts, shopping designer brands, etc. take precedence over financial planning.
I was no different either. I was more than willing to part with my income in the initial years for trivial purchases that elicited temporary joy, but probably contributed more towards bad money management habits. My mother’s rule, however, was a saving grace. I was required to save at least Rs 5,000 from my salary. That simple rule laid the groundwork for more meaningful money saving habits over the longer term.
India is a land of the young. It has the world’s largest youth population, with 66% of residents under the age of 35 years. They are, however, at a disadvantage when it comes to financial planning. We are rarely taught financial planning in our schools and colleges and whatever we learn, we do at our homes. The dependence on our parents to learn good money habits is disproportionately high and unfortunately not all of us are equipped to pass on good investment values.
So, I find it critical to discuss the merits of starting financial planning early so reap the benefits of a more stable and secure future. Here are some tips to help young earners looking to ace financial management in the long run:
The rule of 50:50: For someone who just starts out his/her career and gets the first salary, they instinctively tend to spend most of it. However, a good way to inculcate financial discipline within yourself is by following the 50:50 rule. Simply put, first earmark 50% of your income for savings, and then spend the remaining 50%. This method will allow you live all the experiences you want and also set you on a path of financial prudence.
The next step is to ensure that your savings aren’t lying idle and are multiplying. Start small by investing in risk-averse products like savings plan. As you discover your risk appetite along the way, you can make riskier bets to meet your financial goals.
Goal-based financial planning: Defining your financial goals clearly is an important step in achieving financial discipline. Any financial purchase, unless linked to a specific goal is unlikely to sustain over a longer term. I know of several anecdotes, wherein people buy financial products for the sake of buying. Because they aren’t linked to a specific purpose, people end up getting disillusioned with such products over time and discontinue their investments. To avoid such a fate, it is important that you know what you want to achieve over a shorter and longer term.
People often fixate over short term planning and ensuring that their investments are liquid. This, however, is detrimental to your holistic planning process. It is critical to identify short- and long-term goals. While liquid investments may be ideal for the short-term goals, illiquid and locked-in investments might be beneficial for the long-term ones so as to ensure that those funds remain untouched.
Financial protection is important: Younger people, especially those just starting out in their careers, have limited financial resources and are yet to acquire any significant liabilities. It is, therefore, the most ideal time to consider financial protection, especially purchase of insurance products.
Specifically for individuals who are primary earners and have dependents like retired parents, younger siblings or even care-giving responsibilities towards their grandparents, insurance is a critical instrument to protect family’s financial stability. Remember that the earlier you buy, the more you are likely to pay a low premium for your purchases.
Power of compounding: Financial planning for long-term goals such as sending your children to college, getting them married, and saving for your retirement, should begin early. One often deprioritizes long-term goals, especially retirement, until it is fairly late in their life. This not only limits the recourses available to you to adequately meet your financial aspirations, it also disturbs your mental peace and possibly your financial stability.
Among the key reasons that financial planners always advice starting early for long-term financial planning is the benefit of compounding. When you have been accumulating and multiplying wealth for 30-40 years, you derive the benefit of compounding.
Diversification of assets: Diversifying your financial portfolio is another thumb rule one must follow religiously. This helps you distribute your risk across multiple instruments and prevent the risk of losing your principal money. Having a balanced financial portfolio can help overcome temporary fluctuations without putting the entire capital at risk.
It’s advisable that you monitor your financial health based on changing circumstances & market conditions. Periodic re-evaluation of your portfolio constantly at regular intervals is important to keep yourself in sync with the evolving market and cushion yourself against market shocks.
As you begin a new job, travel to new places, and meet new people, your 20s are full of new beginnings and excitement. Nonetheless, if you practice early financial discipline, your finances will be in good shape for years to come.
Written by Anup Seth, Chief Distribution Officer, Edelweiss Tokio Life