Step-by-step approach to create a plan for your financial goals

• Follow

Financial planning is the process of formulating money management strategy for attaining various financial goals based on your financial position, future life goals and risk appetite. A financial plan will give a clear direction to your investments, help in instilling financial discipline and ensure regular investments at optimal risk.

Let’s go through step-by-step approach for creating a financial plan for your crucial financial goals:

Create an emergency fund before beginning with your investments

Emergency funds help in dealing with financial emergencies like severe illness or income loss. Before beginning your investment for your crucial financial goal, ensure to create an emergency fund big enough to meet the mandatory expenses for at least six months. Having an adequate emergency fund will save you from selling your investments earmarked for crucial financial goals to deal with financial exigencies. Also, try to enhance your emergency fund to account for the inflation of these mandatory expenses.

Identify your financial goals

After you have built your emergency fund, it is time to identify and prioritise your financial goals. Financial goals refer to the amount of money required to achieve various life goals such as creating corpus for our post-retirement life, child’s higher education, home loan down payment, etc. The prioritisation of financial goals would differ from one individual to another, based on their age, marital status, monthly investible surpluses, etc. For example, the financial goal of creating a corpus for marriage or buying dream car might be more important for those in their younger ages while for individuals in their mid-30s, building a corpus for their post retirement life or child’s higher education would accrue higher priority.

Estimate monthly contributions for achieving your financial goal

Once you have identified your crucial financial goal, the next step would be to calculate monthly investments required for achieving those financial goals. Start by estimating the future value of your goals by factoring in the inflation rate. Take the help of online SIP calculator to find out the monthly contributions required to achieve those financials assuming a conservative rate of return for the chosen asset class. Once you know the monthly contributions required to achieve your crucial financial goals, it will help you in budgeting your expenses and investments accordingly.

Evaluate your risk appetite

This step includes self-examination of one’s potential to take risks. As investment in mutual funds has varying levels of risk, investors should factor in their liquidity, income stability and time horizon of various financial goals to decide their risk appetite. After all, your potential to take risk would determine your choice of investment instrument. For example, those willing to take higher risk might invest a higher proportion of their long term investments in equity mutual funds. Similarly, those facing income uncertainties might set aside higher proportion of their medium and long term investments in fixed income instruments or debt mutual funds. An awareness of your risk appetite will also help you in fixing your asset allocation strategy.

Review your financial plan at regular intervals

Financial planning is a continuous process that requires regular monitoring. Periodical review of your financial plan will allow you to make necessary adjustments according to the changes in your income, lifestyle, monthly investible surpluses and even the life goals themselves.

Also ensure to review the performance of your investments at periodic intervals, especially in case of mutual funds. Remember that top-performing mutual funds of the past can also become laggards for a long time. Hence, ensure to compare the performance of your existing mutual funds with their benchmark indices and peer funds on a quarterly basis. Redeem those funds if they consistently underperform their peers and benchmark indices over the last three years.

(The writer is Director, Paisabazaar.com. Views expressed are personal)