In Part 1 we covered WHAT should be the expenses for the child’s future that you need to plan for. In conclusion we can say that College, Post-Graduation and Marriage expenses should be planned for. Most other expenses are smaller and can be managed from out of our regular annual family income.
Part 2. What should be the approach when planning for child’s future expenses?
For fool-proofing the future of your child, you need a solid and shock-proof plan – nothing less. And getting something like that is really simple if you understand and execute well.
These are the things the plan for the future should take care of.
- It should BEAT INFLATION– else what’s the point, you can still buy only as much as you can buy today.
- At least some part of it should give GUARANTEED RETURNS– We can’t take a risk with these objectives, they are for a child, they have to be achieved without fail.
- It should WORK TO DELIVER EVEN IF I DIE – Don’t look so shocked; death can happen to anyone, anytime. It can happen to you as well, even if you are not prepared to accept that. So be ready just in case, and if it indeed does happen you don’t want to let your child suffers for lack of finances, right?
To beat inflation, you will need to take a little risk of investing into the equity market. While it sounds edgy, you can reduce the risk by ensuring that you invest for a long period of time. So start early when it comes to planning for your child. We are big fans of disciplined savings through equity. (Equity here does not mean stocks and shares. More on this coming up shortly.)
A guarantee is something everyone likes to have in their investments. But we must caution you that guaranteed instruments (such as a Bank Fixed Deposit) offer minimal returns that may not even beat inflation especially after tax deduction on interest gains. However, you can use a guaranteed instrument either when you have very little time left before you finally need the money (less than 5-8 years, say), or if you are a person who is completely not okay with taking even a little risk with your money, even if it is at the cost of getting low returns.
If you want to ensure your child is financially protected in case you die, there is only one way – buying a term insurance plan. Why? How? How much? Know enough and more here.
Now it’s time to see what exactly you need to do.
- Invest in EQUITY instruments if you have at least 10 years. These could be a ULIP (Unit-Linked Insurance Plan, the insurance element in this is a good extra to have) or a MUTUAL FUND. These help you to beat inflation, which if you remember, was our first and most important objective. No direct shares or stocks please – too risky!
- PPF (or similar) – if you don’t want too much risk, or you want to reduce you overall risk from Equity. Comes with a guarantee by has limited liquidity. A 15-year time frame is minimal for this product.
- FIXED DEPOSIT (or similar) – if you have lesser than 5 years before you will need the money. Equity instruments can be risky if time available is less.
- TERM INSURANCE – The right combination of the above will deliver your goal. But notice that in each instrument, you need to keep putting money in regularly so that it accumulates and grows over time. What if you were to die half-way into the plan? Who will put in the rest of the money? That’s where an insurance plan comes in. Buy a TERM INSURANCE PLAN valid till the time your child reaches the age of 27 (or till your retirement, whichever is later). This will cover up just in case you are not there to keep putting in the money to make the plan work. Every parent MUST have a pure term insurance policy, preferably an online term insurance plan.
Look at the first infographic below. It shows you the broad approach on how you need to plan for your child’s expenses.
There is no ideal formula, only a guidance. And there can be other ways of investing as well – e.g. investing into REAL ESTATE, or GOLD. If you feel that works for you, go ahead. However, we personally feel that the approach from the top 4 listed instruments as measured, logical and predictable. Real Estate investments are prone to legality issues, and since amounts are too high, so is the risk. Gold is a good investment option if you look at recent past performance, but its price is a function of demand and supply, and it needs lot of time to grow in value.
The exact ratio of the 4 products listed above will depend on your requirement/objectives, your financial awareness, your ability to take some risks, and of course your investment discipline. There are pros and cons of each type of investment which we’ve mentioned here.
That brings us to the end of this second part. In the concluding Part 3, know how much to invest and where, so that you can create a financial plan for your child that will stand any test.