Financial Goal & Planning

  1. Financial goal states the amount of money required to meet the needs and aspirations and the time horizon by which the money is needed.
  2. Financial Planning is a systematic approach to provide for financial goals so that people can realize their needs and aspirations.
  3. Financial Planning helps a person in ascertaining how much he should save, invest and borrow and which goals of his are not feasible.
  4. Savings, Current cost of expenses, inflation rate and the time horizon when the expenses will actually be incurred – all are required and relevant to determine the financial goal.
  5. If the expense has to be made in foreign currency, the impact of foreign exchange will also be required and relevant.
  6. The MS Excel formula for calculating future value of the requirement is:
FV (rate, nper, pmt, [pv] where rate = rate of inflation nper = No. of years pmt = expense per month pv = cost in today’s terms
  1. The investor normally will be able to meet a part of the funds required from his regular savings.
  2. An effort has to be made to find out how much more is required which should be invested today with the help of following formula:
Formula- P = Principal – Cost in present value terms A = Amount – Cost in future r = Rate of Inflation n = Time Period (in years)
  1. Goal Oriented financial planning is undertaken To find out how much money will be needed, when it will be needed to achieve a particular goal.
  2. Financial planning ensures that the investor takes the corrective action in a timely manner reviewing what is need and what is desire and if some desires can be postponed so that the most important needs are met first.

Need for Financial Planners

  1. Financial planners are needed to calculate financial goals since most investors may not be organized to assess their needs in financial terms.
  2. Financial planners are required to help investors determine when and where to invest since they may not be aware about the most suitable financial product for themselves.
  3. If required, Financial Planners can arrange loans in case of shortfall and can also guide investors regarding taxation aspect of the financial products.
  4. Financial planners can help investors plan for contingencies through insurance policies, inheritance mechanisms, etc.

Comprehensive Financial Planning

  1. There are two approaches to financial planning, one is goal oriented. The other is Comprehensive Financial Planning.
  2. In Comprehensive Financial plan, all the financial goals of a person are assessed together and then the investment strategies are developed.
  3. Under comprehensive plan, all possible inflows and outflows are estimated including post-retirement living expenses.
  4. Stage-wise Steps to create a comprehensive financial plan, as per Certified Financial Planner – Board of Standards (USA) are –

a. Establishing and defining the client-planner relationship

b. Gathering client data, including goals

c. Analyzing and evaluating client’s financial status

d. Developing and presenting financial planning recommendations and/or alternatives

e. Implementing the financial planning recommendations

f. Monitoring the financial planning recommendations

  1. Comprehensive Financial Planning requires more time and effort on the part of the investor.

Life cycle and wealth cycle approaches of financial planning

  1. There are two ways to conduct financial planning – life cycle approach and wealth cycle approach.
Life Cycle Approach
  1. Under Life Cycle Approach, financial planning is considered in terms of various stages of the life cycle e. Childhood, Young Unmarried, Young married, Married with young children, Married with older children, Pre-retirement and Retirement.
  2. In Childhood stage, Income is through Pocket Money and children are dependent on parents hence money can be invested for long term in equity schemes.
  3. In Young Unmarried stage, Income is limited and most of the goals like getting married, buying car etc. are for medium and short term hence money should be invested in schemes with higher
  4. In Young Married stage, if only one spouse is earning, life insurance policy must be taken to plan for contingencies. Also, Health Insurance policy should be taken when a person is healthy to avoid rejection of claim on account of pre-existing illness.
  5. In Married with Young Children stage, need for education expenses and insurance increases and is highest. Funds required for college education and retirement should be invested in equity whereas those required for medium term goals like house, car etc. should be invested in Debt.
  6. In Married with older children stage, expenses related to higher education, cost of housing, marriage increase hence at this stage the funds that have been accumulating for these specific goals are either spent or moved to more stable investments like debt.
  7. In Pre-retirement stage, expenses should have reduced because children should have started earning and contributing to the family wealth. Loans taken for education, car etc. should have been repaid by this stage.
  8. At Retirement stage the family should have saved enough that the interest from the investment should be sufficient to meet regular expense. The need to withdraw from capital should arise only in case of contingency.
  9. At Retirement stage, besides investment in debt some portion of the money should be kept in equity as a safeguard against
Wealth Cycle Approach
  1. Various stages in Wealth Cycle approach are Accumulation, Transition, Inter-Generational Transfer, Reaping/Distribution and Sudden wealth.
  2. In Accumulation stage, Investor is building his wealth and covers the years from young Unmarried to Pre-retirement
  3. In this phase of Accumulation, the investor’s exposure to equity is the highest.
  4. In Transition phase, financial goals like Children’s higher education, marriage expenses and purchase of House etc. have to be met. Hence investors increase the proportion of their portfolio in liquid assets.
  5. In the Inter-Generational Transfer phase, investors plan for transfer of wealth to the descendants in the event of death.
  6. In this phase, Financial planners can help the investors with taxation, preparation of will and other inheritance mechanisms.
  7. The Reaping/Distribution phase in wealth cycle approach is equivalent to Retirement stage of Life Cycle approach.
  8. In this phase, the accumulated money is needed and investors start moving money from more volatile investments to safer and more liquid investments.
  9. In this phase of retirement, a person should reduce (not eliminate) his exposure to equity.
  10. In Sudden Wealth phase, wealth can arise because of inheritance of wealth, winning a lottery, etc.
  11. To prevent it being squandered away, the same should be invested.
  12. An approach that can be followed is to park the money initially in liquid Debt schemes and then start an STP to equity.
  13. Further, all of the money should not be put in equity. Even if the investor is willing to take high exposure to equity, funds should be transferred in tranches.

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