The investment portfolio of an individual to a large extent depends on the individual’s risk appetite. The more risk-averse would prefer to invest in bank fixed deposits, post office schemes and government bonds and those not-so-averse would delve into equities. There are others who will choose the middle path and opt for investing in mutual funds. Of course, depending on one’s tax bracket and tax liability one could also invest in instruments that are eligible for a tax rebate. Not to forget the particular fascination Indians have for buying gold. And, it is everybody’s dream to own a house and invest in real estate. The adventurous may indulge in trading in derivatives, commodities and even currency.
I think most people are aware of the risk-return co-relation, which is direct, that is, high-risk high return and low-risk low return. This is one dilemma that everybody needs to resolve. The greed instinct attracts us towards investments that have the potential to generate higher returns while prudence demands the preservation of one’s hard-earned money should be of paramount importance.
If you have recently started earning, what should you have in your investment portfolio?
If you are employed, a certain portion of your salary is probably already being invested in a provident fund account through your employer.
In addition I would suggest that
- you keep a small amount in fairly liquid interest bearing assets (short term, risk free)
- deposit a certain amount in a Public Provident Fund (PPF) Account (relatively longer term, risk free)
- begin building an equity portfolio (intention should be to invest for the long term, fairly high risk) and
- invest in real estate (long term, very low risk)
In the early stage of your career it is understandable you may not have large investible surpluses and acquiring real estate may not be possible. However this is one investment you should make at the earliest opportunity, as soon as you can afford to make the down payment and to pay the EMIs.
For investing in equity you would do well to find a good broker who will not only buy and sell on your behalf but will also be a source of free advice on what and when to buy.
In this article let me tell you a bit more about the PPF Account
Investing in PPF is an excellent way of saving, which also gives a tax deduction. But even the tax advantage is not available it still makes ample sense to invest in PPF.
Let me explain why.
Let’s take a look at the features of this account and its advantages.
PPF is a fifteen year account. One must deposit every year for a minimum of fifteen years.
The period of fifteen years is actually nothing to get concerned about, and, in fact, once a person gets acquainted with its advantages s/he actually starts wishing that the account was of a longer duration. For this purpose it is permitted, on maturity, to keep extending the account by five years each time.
All that one is obliged to do is to deposit a minimum of Rs 500 each year, and it is possible to deposit up to a maximum of Rs 100,000.
The amount invested in PPF account is eligible for a deduction under section 80C of the Income Tax Act, subject to the conditions of the section.
The PPF account currently earns interest at the rate of 8.8 per cent per annum (wef 1st April 2012), compounded annually. The entire interest earned is exempt from income tax under section 10 of the Income Tax Act, without any limits.
Someone may worry, that the account is for fifteen years, and what if one is in dire need of money sometime within that period? This is nothing to worry about since the account allows a loan to be taken after the third year and there is also a withdrawal facility after the sixth year.
Take a look at the table. Imagine somebody opens a PPF account, deposits Rs.100,000 each year and renews the account every 5 years after the initial 15 years. Let us see the interest that will be earned and the balance in the account after 5, 10, 15, 20, 30 and 35 years.
At the end of 10 years the principal amount deposited is Rs. 10.00 lakhs and the closing balance Rs 16.37 lakhs. After 20 years Rs 20.00 lakhs is the principal and closing balance Rs. 54.44 lakhs. After 25, 30 and 35 years the principal amount is Rs. 25.00 lakhs, Rs. 30.00 lakhs and Rs 35.00 lakhs and the closing balance is Rs. 89.46 lakhs, Rs. 142.87 lakhs and Rs 224.31 lakhs respectively.
A person who opens a PPF account at the age of say 25 years (soon after s/he starts earning can easily deposit in the account for 35 years or even more).
One of the finest gifts parents can give to their child is a PPF account which was opened in the child’s name soon after birth. The parents can deposit the money for the first 20 to 25 years of the child’s life and thereafter the child starts depositing in the account till the age of say 60. Can you imagine the amount that would have been accumulated.
I have always felt, that if one has systematically deposited in a PPF account, starting relatively early in life, even if no other retirement planning has been done, this account alone can suffice.
In table 2, at the end of 35 years the closing balance is about Rs. 2.24 crores and the interest is about Rs 18.14 lakhs. If this account had continued for 40 years the balance would have been much more (a little over Rs 3.48 crores) and the interest per annum over Rs. 28 lakhs. Now imagine a couple, both of whom had a PPF account, which at the time of their retirement has been active for 35 to 40 years, each having a closing balance of anywhere between 2.24 crores to 3.48 crores, earning interest per annum of, say, anywhere between 18 lakhs to 28 lakhs. By the time of retirement most family responsibilities have been taken care of, the children have been married, the house and the car are already there. Even if the two simply withdraw the interest component of Rs 3 to 4 lakhs per month, the principal amount is safe and untouched which is their nest-egg, and the entire amount withdrawn is tax-free.
(Dr Anil Lamba, is a Financial Literacy Activist, International Corporate Trainer and Author of the bestselling book Romancing the Balance Sheet)