The pandemic, however, imparted some key lessons on the importance of following basic financial planning principles—create an emergency fund, get adequate health and life insurance, remain invested, irrespective of market volatility, and avoid borrowing to fund your lifestyle.
The sales of health and life insurance policies and individuals opting for moratorium despite the additional costs show that many were unprepared.
“The events that can potentially destroy you financially happen rarely in one’s lifetime. But one such event can ruin family finances forever,” said Arnav Pandya, founder of Moneyeduschool, an Ahmedabad-based financial literacy initiative.
It’s not that people don’t know the basic tenets of financial planning but, according to investment advisors, they don’t prioritize it. Here’s how you can implement financial lessons from the pandemic.
ASSETS ARE NOT FOR EMERGENCIES
Many borrowers opted for moratorium even though they could service the loan, said some bankers, who added that most people wanted to have funds in their bank account for emergencies.
It wasn’t as if these borrowers didn’t have assets to meet emergencies. But monetizing those assets could have been a problem, the bankers said.
If someone loses a job and needs, say, ₹6 lakh to cover at least a year’s expenses, they would not sell their house, which would be of a much higher value, to get the cash. They may also have gold in the form of jewellery. But the shining metal has emotional value.
In such cases, maintaining an emergency fund that is quickly accessible and easily liquidated is, therefore, essential.
Just follow a few basic rules when saving for an emergency fund.
“The emergency fund should be able to pay for at least 12 months of your expenses—the more, the better. Don’t chase returns under this. Parking money in a bank you trust, which pays around 4-6% interest on a savings account works,” said Melvin Joseph, a Securities Exchange Board of India (Sebi)-registered investment adviser and founder of Finvin Financial Planners.
Maintaining an emergency fund is much more important than investing. In case you have an insufficient emergency fund but have ongoing investments, you can temporarily stop those and redirect that money towards the emergency fund.
DON’T BE CONSERVATIVE WITH INSURANCE COVER
There is no formula or thumb rule to decide on the right amount of coverage for health insurance.
A health insurance policy of ₹10 lakh at present would generally suffice. But if you opt for a ₹25 lakh cover, you will need to pay 35-53% more. For someone aged 50, if a ₹10 lakh health insurance policy costs around ₹20,000, the cost for a ₹25 lakh cover will come to ₹26,000-27,000 annually.
In the case of life insurance, there are a few ways you can calculate the amount of cover you need. One such method is income replacement value, wherein an individual multiplies the current income by the number of years left for retirement to arrive at the cover.
If your current annual income is ₹12 lakh and have 25 years left for your retirement, then your life insurance cover should be ₹3 crore (12,00,000 X 25).
Another method called human life value method considers your current age, income, existing savings, and loans, and the potential earning you could have in the future. But, according to the thumb rule for life insurance, your cover should be at least 10-15 times your annual income.
INVESTORS MATURE WITH EXPERIENCE
On 5 March last year, the benchmark S&P BSE Sensex index was at 38,470.61. But in 18 days, by 23 March, the index had corrected by 32% as investors panicked amid the rapid spread of the pandemic.
From there on, the index recouped and rallied all the way up to 52,154.13 on 15 February this year. From its lows in early 2020, the index had gained 100% in a matter of 11 months.
If you had panicked and sold your investments or halted them due to the correction, you would have lost out on one of the biggest opportunities to create wealth in the past decade.
The best way to create long-term wealth is staying put with your investments and ignoring the market movements.
“Along with staying put, investors also need to stick to their asset allocation. When the markets took a beating in March, those maintaining asset allocation would have invested more in equities,” said Pandya.
AVOID LOANS TO FUND your LIFESTYLE
Some loans are necessary, such as home or education loans. But it’s easy to fall for loans to fund lifestyle as lenders package these in attractive ways to lure potential borrowers.
When you go to a store to buy a consumer durable such as a fridge or an air conditioner, there are chances that you may get a loan at zero interest rates.
To make that attractive, you would also get either a discount or cashback if you opt for a loan.
The same holds for online shopping. There are app-based loans that claim to work like a credit card, offering a credit limit to borrowers.
Avoid taking such loans for making your lifestyle purchases. If the offer is too good to resist, opt for it only if you have funds to repay the loan within a month.
And, finally, despite all your best efforts, one thing can still fail you—the absence of a Will. Without a Will, there can be disputes in your family for the wealth you have been creating. Therefore, planning for the distribution of your wealth after your death is as essential as creating it.
You can make a basic Will at any online service provider such as Ezeewill.com, which is back by National Securities Depository Ltd (NSDL), a government-owned entity.