I have been practicing Financial counseling for the last 5 years. In this journey, I am lucky enough to meet lot of investors, my clients, friends, well-wishers and relatives. I have observed that each individual’s/family’s financial situations, financial behavior and attitude towards investments risk are very unique and different to each other. May be this is the reason why I have always believed that there is no ‘‘one-size-fits-all” financial plan/investment plan. That is why it is called as PERSONAL Finance. It is your finances.
But, I have observed (observing too) one common thing from all these meetings i.e. most of the investors are committing same and common PERSONAL FINANCE Mistakes.
In this post I have tried to list down the top 6 most common and biggest Personal Financial Planning mistakes that many of us commit. These are purely based on my work experience and observations. You are free to share your comments on my views.
Six Most common Personal Finance Mistakes :
- Mixing Life Insurance with Investment – This has to be listed as the biggest and the most common mistake that many people commit. The role of investing is to grow wealth while the role of insurance is to protect it. Mixing the two will lead to lot of disappointment.Traditional plans like Endowment, Money back and Whole-life policies are the best examples for this. These plans come with a combination of investment and insurance. I have seen many investors buying these kind of life insurance plans without even trying to understand the plan features, tenure and benefits. In India, Life insurance is sold and not bought in most of the cases. If at all investors buy it, they do so for tax planning purpose only (when they have to submit their tax planning investment proofs ). Don’t get into liquidity trap to save a little on tax . Life insurance is a long term commitment. (Read my post on “Is Term insurance a waste of your money?“)
- Buying a Property at a young age through home loan – In India, the decision to buy gold or to invest in a property is more to do with sentiments rather than the actual requirements. I have been observing that as soon as an youngster gets married the first financial decision he/she makes is to ‘own a home.’ This can be a demand from his/her family members (or) due to peer-pressure (or) ‘why pay rent when I can own’ syndrome. Considering the prevailing property market prices, most of us can buy a property through a home loan only. Once you acquire a home loan, around 30% to 40% of your net monthly income goes towards your Home loan EMIs. This may put lot of strain on your Finances. Another important point is that this makes you to postpone the planning for other important Financial goals like, your RETIREMENT PLAN. Your retirement plan is the first thing that you should really care about. (Remember this point – Do not consider your primary home (residence) as an Asset, irrespective of the appreciation of the value of your property)
- Not maintaining a Contingency or an Emergency Fund – I have seen people who earn even a ‘five figure’ salary asking for financial help during unforeseen medical emergencies or unfortunate events. They earn well but they do not save. So, what do they do to fund these emergencies? They go and acquire personal loans or take loans on credit cards. This puts them in a viscous circle. They take years together to come out of these loans and have to pay heavy interest amount too. We can also consider the above point (‘mistake-2’) here. I have also observed that people withdraw all their cash reserves, PPF (Provident Fund), EPF etc to fund the down payment while purchasing properties. Do not do that. Have sufficient cash or bank balance, may be 6 months of your monthly (fixed+variable) expenses as an Emergency Fund. If you do not have such fund, start saving in a Recurring Deposit or use your Sweep-in account to create your contingency fund.
- Not having sufficient Health Insurance coverage – When I ask a salaried individual about his/her medical insurance plan, I get to hear this answer ” My employer provides health insurance cover.” With rising medical costs and unhealthy lifestyles, do you think that the coverage provided by your employer alone is sufficient? You may ask yourself few of these questions. What happens to my health coverage if i quit or lose my job? Can I afford to buy or get a new medical insurance plan when I retire at 58? What if suddenly my employer changes the terms & conditions of Employees Mediclaim policy? Aren’t you putting your whole family at risk? Have a standalone Medical insurance policy. Have an health insurance plan for all your dependents.
- Investing heavily in Fixed Income Securities – Recently, one of my good friends discussed about his personal finances with me. I was shocked to know that monies to the tune of Rs 12 Lakh (30% of net-worth) were in Fixed Deposits and this person is just 30 years old. This person does not have any dependents and no financial commitments. We need to understand the importance of REAL RATE OF RETURN here. Fixed income securities like Bank Deposits, Recurring deposits or Post office small savings schemes generate returns of around 8% to 9%. We all are very much aware about the rise in living expenses (inflation) over the last few years and I am sure that this will be the case in future too. If you make 8% profit on your fixed deposits and inflation is 6% then Real Rate of Return is around 2%. You still have to adjust this 2% for the taxes you pay. That means your wealth/investments are not growing, infact your wealth is getting eroded. Take charge of your finances, you have to invest in equity related instruments to generate long term wealth. Invest atleast a portion of your savings in right Equity and Equity related mutual funds. Invest in and diversify across various asset classes. But, kindly understand the risks associated with each asset class before investing.“Gold, real estate,stocks wont make you rich. How much you know about them will make you rich. Financial literacy is important. ( Read my post on “RBI’s data on Financial Savings of the Households.“)
- Not setting any Financial Goals – “How much I will get?”, “Can I get 15% guaranteed returns?”, “Is there any investment which can generate 20% returns without taking any risk?, “Share market is at all time high, is this the right time to enter?, “Is this the right time to buy property or gold”…. 🙂 . These are the common queries that I receive on a daily basis. There is only one answer for all these questions. Instead of trying to time the financial markets, we will be better off if we first identify and set financial goals. This will enable you to have clarity about your investment requirements. Take your financial planning seriously and do not postpone investing for your financial goals. (Read my article on “How to create a solid Investment Plan?“)
Few more common mistakes that investors commit are –
- Having mob-mentality (Do not rush to follow the crowd, it might be a funeral procession – Robin Sharma). As I mentioned, each financial plan is unique. Your financial situation might be different from your friend’s. Plan your finances based on your risk profile and your own requirements.
- Many of us under-estimate the importance of having a written WILL. Do not postpone writing a WILL. Do share details about your investments with your nominees or family members. (Read my post on “How to write a WILL?“)
- Many of us do not try to understand about the Salary structure and also about the basics of income tax.
- For many of us Tax planning is Financial Planning. (Visit my post on “Think beyond TAX when investing.”)
- I also get to hear this common sentence frequently – ” Sreekanth, I do not know where my money/income is going..” These days, major purchases (Smart phone, LED TV etc) are financed by debt, not by advance saving, and are often bought impulsively without research. Suggest you to prepare a monthly budget and stick to it. Plan and save for fixed as well as variable expenses.
The Secret of a Financially Happy Living is to Plan for all the Known Events in your life and to Make Provisions for all the Unknown events in your life!!! Personal Finance lessons are often learned through experience. If needed, do take corrective measures right now…better late than never 🙂
Do share your views and comments. Cheers!
(Image courtesy of Chris Sharp & Stuart Miles at FreeDigitalPhotos.net)