Thursday, June 30, 2016

Friend of desires, enemy of bad money managers

All of 23, and first job in hand, Rashmi got a free credit card with her salary account. She was thrilled to have monthly salary and a credit card together. She felt it is a double salary for her. She was amazed at the 50 day credit policy, with awe she listened to the bank representative sharing the features of small monthly EMI schemes for bigger purchases, loan offers, money withdrawal, freebies, and so on.

Her joy was short-lived. She bought a Split AC and a pair of gold earring. The monthly EMI started eating up 80% of her salary forcing her borrow money from her mother for monthly expenses leaving no room for saving and investing for the next 10 months. But, at least she learnt the lesson easy and early life. There are many examples which had much difficult endings. Then why this phenomenon of credit cards such an in-thing. To understand the smart usage of Credit card, we must consider the topic dispassionately or objectively. Credit card is a high cost convenience tool and not a savings account. It should be used with caution.

How it impacts your budget “Buy now, pay later” doesn’t work that easy. Apparently it looks very convenient option, but it comes with a price. When we buy a product in credit, we shift the burden on the next month. So, the next month budget gets affected. If not paid within the stipulated time, the due amount escalates with high interest rates and heavy penalties every due date. So, relook at your monthly financial plan. Don’t over use. Stay within your monthly budget. You need to pay within 50 days/ monthly billing cycle while buying with credit card.

Consider - Is it absolutely necessary to make the purchase in credit. - Will you be able to repay within next due date. - If buying in EMI, consider the processing fee and monthly interest charges - Don’t fall for the “minimum payment” myth. It only saves you from penalty. You still have to pay the amount with interest, compounded every month on the remaining amount.

Withdrawing money with credit card is a financial blunder Money withdrawal is a big NO NO in credit card. Please check with the bank representatives about the transaction fee, interest rates (compounding quarterly/ monthly in case of delayed repayment.) It can go as high as 40-50% and even double if done carelessly.

Beneficial for cautious people However, this product has its own advantages enjoyed by many smart money managers.
1. It helps you earn a little more interest in your savings account. For ex – If you have 10,000 Rs. In savings account, and the product you wish to purchase is within 10,000. You can buy the product in credit card and repay the amount in the stipulated 50 days of credit card billing cycle (interest free period). In this transaction, your money lies in the account for 50 more days and earns you interest for the said period. It also helps in keeping higher quarterly average in your savings account.

2. Good transaction/ repayment history in credit card earns you CIBIL score (helps in getting better terms for various loans)[will discuss CIBIL in details in another post]

3. The freebies come with it. With every swipe you earn some bonus points. On accumulation, these points can earn you some shopping vouchers/ discount coupons/deals apart from the various cash back offers. In the higher end cards, there are many more benefits like airport lounge access etc. In a whole, it’s a good product for people who can use it smartly.

It is just a convenience tool to be used judiciously.

Note - Please check the fine prints of terms and conditions when you are offered a free credit card from bank. If the joining fee is waived, there is a yearly fee attached, whether or not you use the service. Ask the bank representative about the costs involved in detail. Also, do look for various freebies, vouchers, bonus in detail to make the most of it.

Monday, June 27, 2016

Emergency Fund - Plan B at work when your Financial Plan A is at Risk!

Emergency Fund Plan B at work when your Plan A is at Risk!

 It was middle of the month; Prakash was done with his loan EMIs, Car Insurance, son’s tuition fee, grocery shopping, and, like every month he could also save Rs. 7000/- in #taxsaving mutual fund and #PPF. As he was just a few clicks away from making the investments, his son came running and
informed him about the school trip, this had skipped his mind while planning. This time they have planned to go to Shimla for camping and the contribution was Rs. 25,000. He almost collapsed to even imagine how his investment plan will go haywire; he may need to borrow from a colleague or somebody to meet the extra expense which will also have negative impact on the budget for next few months. As he was thinking the best possible way to manage things, his wife came to his rescue and handed over Rs. 25,000 to Prakash and smiled. Prakash was in awe an shock as he only gave her money for grocery and some routine expenses each month. The intelligent lady explained as she was given the money, she removed a certain amount and kept in her piggy bank each month for emergency needs and she has been doing this since their marriage. And, today the fund is big enough to take care of family expenses for three months in an emergency situation.

We need an emergency fund

This event is an eye—opener. Many a times we bump into unplanned expenses on account of sudden medical emergencies, education, job loss, accidents etc. An emergency fund doesn’t only helps financially, it also offers a much needed mental peace to handle the situation better. The size of the fund could however vary depending on various factors.

Corpus size

Safer the better, so bigger the better. However, everyone has a risk profile of his/her own. While deciding the amount, keep few things in consideration –
1. Do you have funds to take care of 3-6 month of family expenses handy if you fall sick?
2. Are you confident to take the risk your current job for your dream profession?
3. Will you be at ease financially if your ailing parent need a sudden medical attention?
4. Do you have a child with special care needs? Consider the unavoidable monthly expenses – Loan EMIs, Insurance premiums, investment obligations and other family maintenance expenses

How and when to build that large liquid corpus

Good old days are gone when grandmother had hidden boxes with gold coins. Now, you have better options as your money can also earn. The best moment to start it is the moment you conceive the idea. The fund should only grow bigger as you age. Remember, it should be liquid (easy to withdraw). One can start with a simple savings account or a recurring deposit in any bank. A savvy investor with higher tax bracket (20-30% )can also opt for a liquid mutual fund. {I don’t suggest an equity mutual fund/ stocks here as every investment has its own purpose. Liquidity and safety of the corpus is the priority here}

How do you manage the fund Once, the corpus achieves the desired level, it can be kept in form of a fixed deposit with a reputed bank or a liquid fund. It also should be reviewed periodically and increased as and when required. Whenever the fund is used, one should take effort to rebuild the corpus again in a planned manner with priority.

What to remember 
Emergency Fund is a substitute for #health insurance, #life insurance, #retirement planning, #mutual funds.
 Emergency Fund is not a substitute for #health insurance, #life insurance, #retirement planning, #mutual funds. Emergency fund is a Plan B to take care when the Financial plan A is in danger!

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