The best way to stop your income from running out and to ensure that your money continues to grow is to plan your finances. Here are a few steps to avoid, if you want your wealth to grow:
Refusing to identify your goals/needs
The key to successful investing is self-examination. So, start by understanding yourself and analysing your needs first.
Once you have identified your goals separate the near term from the long-term ones. Examples of:
Short-term goals: saving for marriage, luxury vacation, fancy car etc.
Long-term goals: save for your retirement, child's education, dream home
But how will this ensure your money grows?
To grow our savings, you must invest it. Every investment carries a certain amount of risk along with growth potential. Understanding your financial goals and their timelines will help you ascertain your appetite for risk along with your return expectations. Based on these parameters, you can choose your investment vehicles.
Failing to identify your goals can result in you choosing investments that don't match your profile and, you may even end up taking on hidden risks, risks that can lead to massive losses.
Avoiding planning and budgeting: Spend more than you earn
Benjamin Franklin once said ‘a penny saved is a penny earned’.
Even though we realise how important it is to save, we underestimate the value of a plan to achieve it.
A fantastic financial tool referred to as a budget can be very helpful in managing money. Not only does it encourage you to save, but it also highlights areas where you might be overspending.
A great way to start is by preparing a monthly budget. A simple table, depicting your combined earnings and expenses.
Ration your expenses and spend on areas where it is necessary. Keep money aside for special occasions. Plan ahead for your vacations or any other imminent large expenses. Up your savings game. And if you still cannot manage, consider looking for an alternate source of income. Bear in mind, that as your earnings grow, so should your savings.
Lastly, do not forget to save and invest at an early age. Even saving small amounts, regularly will allow you to take advantage of time and the power of compounding.
Better understood with an example:
Scenario 1: A couple decides to invest Rs 1,000 for their daughter since her birth.
Scenario 2: Arun invests (once he has earned enough) at the age of 45 years and puts away Rs 40,000 per month towards retirement.
Scenario 3: Anita decides to invest Rs 5,000 after her very first job for 40 years.
Savings per month
Power of compounding
Scenario 1 – Parents
Scenario 2 – Arun
Scenario 3 - Anita
Even though Anita saved and invested a lot less (less than half) than Arun, she had the advantage of starting early. The same applies to the parents who started investing small amounts from the day of their daughters birth. This allowed them to save a lot more than Arun thus proving that there is no such thing as too little to save and invest.
Knowing that small amounts saved and invested regularly can grow exponentially, must be encouraged to start saving by planning and budgeting at the earliest.
No independent research before investing
Gambling, as often perceived, is not just restricted to casinos and racecourses. It is pretty prevalent in the stock markets as well. How do you ask?
Let us look at a classic example: A friend of mine told me to put all my money on ABC Ltd. stock. He said ‘it is a great time to invest’. Even though I have no idea what the company does or who owns it, I make the purchase. Assuming that since my friend has made money in stocks in the past, he won't be wrong.
Investing this way is equivalent to gambling, where your luck plays a huge role. But betting on luck is risky, and you can't possibly risk your hard-earned money this way.
A better approach, which is also far less risky, is to do some background research before investing in a stock.
It is a well-known fact that you must always invest with a margin of safety; buy the stock at a discount to its fair value. So on the off chance, it fails to perform as expected, you have a built-in cushion that minimises your losses.
For this, you will have to do your background research, your due diligence. Find out what more about the company? Understand the underlying business.
Who owns it?
What are the risks to the business?
What are its prospects?
Don't indulge in stock tips and rumours. Instead, invest in a business you know and understand well. It will not only ensure that you are not taking on any hidden risks but also allow your money to grow exponentially.
Ignoring tax planning and insurance needs
Tax planning, not to be confused with tax savings, is about managing your investments efficiently to minimize your tax liability.
It only works when you take on a holistic approach. Mainly as tax planning is interrelated with your earnings, your investments and your insurance needs.
Tax planning is essential for growing your wealth. It leads to savings, boosting your returns and savings and bringing you closer to fulfilling your financial goals.
Insurance planning is equally important when it comes to growing your wealth. Granted, nobody likes to think about death or diseases. But the sooner we accept them, the sooner we can prepare ourselves and plan for them.
Not taking Life and Health insurance is one of the biggest mistakes you can make. Adequate insurance provides security to our family in our absence and helps you prepare for an uncertain future. Any unforeseen expenses can force you to borrow, jeopardising your financial health.
Falling into the debt trap
A wise man once said, “Rather go to bed without dinner than to rise in debt.”
Avoid borrowing as much as you can, especially for things that you do not appreciate. The key is to distinguish between the good debt and the bad debt. Borrowing for business expansion or home or for college (basically anything that increases in value) pays off in the long run and is considered the good kind. But borrowing to buy goods and services you don’t even need, like luxury vacations, fancy cars or jewellery, never does and is therefore considered the bad kind. And so, one of the biggest regrets people have is not just borrowing, but borrowing when they didn’t need to.
Debt is known to be one of the biggest hindrances to growing your long-term wealth. So, to ensure your money grows well, you must first pay off any ongoing debt. Start with the ones that carry the highest interest rate. Once that is out of the way, you can target the other kind.
Repaying debt and making monthly interest payments leaves you with little control over your own money. Every paycheck goes first towards debt and interest repayment followed by your monthly expenses, leaving you with nothing to save for a financially secure future.
Not maintaining a rainy-day fund
While diligently saving for a financially secure future, do not forget to keep some funds aside for contingencies. As life is full of uncertainties and unforeseen events can give rise to financial losses; like an unexpected house repair or a sudden job loss.
While you can't predict such events, you can prepare for them. Start by keeping 6-9 months of living expenses aside in a safe and liquid investment vehicle.
The key to successfully growing your money is to start saving and investing early on in life.
Develop a disciplined investing schedule and stick to it. Move your money out of the savings account and invest in what you know to maximise returns. The power of compounding, combined with time, will take care of the rest, helping you achieve your financial goals and aspirations with ease.