Financial Planning and Goal Setting – The Basics

basics of financial planning and goal setting

Many people have the desire to get their finances in order but they don’t get far with it. Perhaps, it is because they do not have a systematic process to follow. If you are one of those, I have here the basics of financial planning and goal setting, for you.

Adequate Risk Cover:

The first thing to do is mitigate potential risk. Hence it is necessary to ensure that you have adequate risk cover to meet all your liabilities and financial goals, should something tragic happen. The best way to ensure this is to purchase plain vanilla term insurance plan. You should have a minimum of 100 times your monthly income as sum assured (rule of thumb).

Read More about adequate risk cover.

Adequate Health Cover:

Medical emergencies can derail any well thought out financial plan. Therefore it is necessary to have adequate health cover for your family. You may purchase a family floater plan cover this risk. You may also opt for an additional top-up health insurance coverage, should you feel the need for a higher coverage. It works out cheaper than opting for a higher cover in the main plan because it only kicks in after the sum assured under the main plan is exhausted.

Goal Setting and Prioritizing:

Some of the common goals are

  • Contingency Fund
  • Purchasing a house
  • Children education
  • Children marriage
  • Purchasing a vehicle
  • Family vacation
  • Retirement
  • Starting a business

You may have the above goals or others which aren’t specified here. Now, the next step is to put them in order of priority. Often, I have seen people putting first priority against more than 1 goal, which actually defeats the purpose of the exercise.

There is quite a bit of thinking to do and if you are married, this should be done jointly with your spouse, so that both of you are on the same side of things.

Contingency Fund should be the 1st goal in your list if you don’t have one already.

3 to 6 months expenses should be maintained in the contingency fund.

Meant for emergencies so that your long term investments are not disturbed.

Estimate Present Cost:

The next step is to estimate present cost of each of these goals. Let’s say, your goal is to buy a house after 7 years. What would be its present cost if you are buying it now? Estimate the present cost that you would be paying if you bought it today. Let us say you are planning for a down-payment of Rs 10 lacs for the house in present cost terms.

Calculate Future Cost:

The usual inflation rate in India is around 7%, so you can find out the future value of Rs 10 lacs after 7 years. Continuing the above example, the future value after 7 years would be Rs 16.05 lacs. This amount becomes your target to be achieved in a period of 7 years.

Similarly, you can work out the target amounts for each of your goals.
Some areas like education or medical goals may require a higher rate of compounding because prices tend to rise faster in those sectors. You may use 10% rate to find future value for those goals only.

Goal setting and Financial Planning

Investment Avenues:

In the next phase of financial planning and goal setting you need to decide on the investment avenues which will help you raise the target amounts in the required time frame. Mutual funds are very good for financial goals because a gamut of schemes are available to choose from depending on your time horizon and risk appetite.

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If you do not have enough funds for all the goals, you will go strictly as per priority assigned earlier. Funds have to be invested for goals which have higher priority and the rest can be deferred till further funds are available.

  • For short term goals (less than 3 years), you may go for money market or low duration funds
  • For medium term goals (3 to 5 years), you may go for hybrid funds, dynamic asset allocation funds or large cap funds depending on your risk appetite
  • For long term goals (more than 5 years), you may go for multi-cap funds
  • For goals which are more than 10 years, you may go for an appropriate mix of multi-cap funds and mid-cap funds, depending on your risk appetite

Amount of Periodic Investment

Once your investment avenue is finalized, you can calculate backwards the amount that needs to be invested monthly.

Short term plans give around 8% CAGR, medium term plans like hybrid funds will give around 10% CAGR and multi-cap funds will give around 12-14% CAGR. *

*All of these returns are estimates

Read more about CAGR – Compounded Annual Growth Rate

Using these return percentages, you need to find out how much to invest in each of them monthly, so that you get to your target amount in the desired time frame.

For instance, continuing the above example, of raising 16.05 lacs in seven years, I may choose to go for a multi-cap fund. Since it is a long term goal of 7 years, I can afford to take some risk and invest in multi-cap funds. These funds would give me an average return of 12% CAGR. So, how much should I invest monthly for 7 years to get 16.05 lacs at 12% rate of return?

The answer comes to approximately Rs 12,165 per month. That’s the amount I will invest every month to achieve my goal in 7 years.

Once you make this financial planning and goal setting template, it is helpful to review it every year to check whether your investments are going as per plan or not. Your goals might also change over a period of time and so they need to be reviewed periodically.

Financial Planning and Goal Setting – The Basics
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