Indians are among the best in the world in most professions and are highly respected in the global community. However, when it comes to money management, most Indians are guilty of several mistakes. We list seven common money mistakes that most smart, intelligent people commit.
1. Too many expenses and loans
Banking is a booming business in India as more and more people are continuously borrowing. At the same time, recovery agencies are also a booming business as more and more people default on their loans. Although India has traditionally had one of the best savings rates as compared to western nations, the same cannot be said of the next generation. Although most people today have a high and stable income as compared to the earlier generations, their expenses are equally high. One of the key reasons is that they have many expenses and loans. There are too many temptations today and all one needs to do is call a bank or financial institution for a personal loan. In this process of keeping up with the next iPad, gadget or car, many young people end up paying a substantial amount of their income towards EMIs.
Besides EMIs, insurance premiums and personal expenses eat into earnings quite quickly. I am sometimes surprised to see people with a seven-figure monthly salary finding it difficult to save. This is because they have major expenses such as penthouses, bungalows, yachts and so on. Since these are big-ticket items, servicing debt and maintaining these often result in a liquidity crunch even for affluent families with very high incomes.
Some people, especially business owners and professionals, take on loans because their accountants advise them to do so from a tax planning perspective. This is primarily to harness the advantages of depreciation and interest deduction. However, if taken ad-hoc without taking a holistic view of the family’s liquidity, present needs and future requirements, such decisions often put a family in cash flow problems.
2. Over-concentration in real estate
Although it sounds stereotypical, most people hoard real estate like there is no tomorrow. One reason is our love for real estate. Besides, there is an abundance of black money in the system and a lot of income in cash that can be comfortably cushioned in real estate investments. Additionally, people believe that not only is real estate insulated from market vagaries, but that it also gives stellar returns along with tax benefits. As a result, many people even borrow to invest in real estate and are leveraged [which means they take on debt].
Most Indians have completely forgotten the great Indian real estate crash of 1995 and the subsequent lull for several years until 2003 – 2004. This is a very dangerous strategy to adopt as it can prove to be lethal during real estate crashes, especially since real estate is an illiquid investment.
3. Inadequate insurance against death, disability, professional liability and loss of income
Most people buy life insurance as an investment. This is because there is a lot of emphasis on life insurance as a great tax saving tool and many people are enamoured with tax saving instruments. Besides most people are so busy with day-to-day activities, they often wake up between January and March every year to do something to save tax. Due to such ad-hoc purchases, they end up with a plethora of irrelevant policies.
What’s worse is that many pay high premiums for a very low cover. Despite paying high premiums, most people are under-insured when it comes to life insurance. There is no assessment of the actual financial risk their family will face, in case of their premature death, and most liabilities are not covered. At the same time, they have negligible or no critical illness cover, negligible disability cover, no income protection and no social security benefits. This area must be adequately addressed to ensure lifestyle maintenance, wealth creation and wealth protection.
4. Investments done in an ad-hoc fashion, due to time constraints
The portfolio of most people would probably look like this: more than 50 – 60 per cent in real estate investments, 30 – 40 per cent in debt [PPF, insurance policies, fixed deposits, bonds and post office], 5 – 10 per cent in cash [savings account, short term fixed deposits and cash], gold [primarily bought as jewellery] and very negligible equity.
Most people have just these investments: Real Estate, PPF, EPF [for employed people], gold and insurance policies.
Considering that people are getting busier by the day, financial planning takes a backseat. This is when people end up taking decisions based on advice of different sets of people [chartered accountant, colleagues, banks, real estate agents, family members, insurance agents and financial advisors]. There is no co-ordination between all the advice sought from these different sets of people and hence their actions are extremely haphazard in nature. Hence if you take a look at the finances of most people [even the most sophisticated], you will clearly see that it is a hodgepodge of products accumulated over time.
5. Lack of goal-setting and planning
“I take life as it comes. I don’t plan for it,” said a leading Bollywood actress. It’s very easy to say this but nothing meaningful can be achieved in life without setting goals and planning. Yes, life will happen as you plan and sometimes you will need to course-correct, but there are certainties in life that will happen. For e.g. death, retirement [everyone will grow old and will stop working or slow down at some point of time], paying taxes and so on.
I am appalled when people spend several months planning for their vacations or discuss as a family on the next car to be bought, but when it comes to financial planning and goal setting they say, “I will do it after a few months” or “I don’t have time right now.”
6. No written financial plan
Since there is no formal education in personal finance, most people do not understand the concepts of financial goal setting, cash-flow and debt management, insurance planning, asset allocation, maximisation of post-tax income, retirement and estate planning .
Their realisation of the importance of a financial plan is reactive rather than proactive, in that it is only when an event happens that they realise the need for a financial plan or the need to take a holistic view of their financial situation.
7. Myopic view of tax planning
Most people generally believe that the objective of tax planning is to minimise taxes and often do things that are not in their best interest. They take several loans, buy real estate and life insurance in an unplanned fashion and indulge in tricks to fool the taxmen such as showing limited income or a weak balance sheet with the only objective of not paying tax. However, the right goal of tax planning is to maximise post tax-income.
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