Archives May 2020

Most of us are experiencing a pay cut or job loss or secondary income loss of some sort. There is absolutely no one that is not affected by covid economically and financially. Given the forewarning from medical experts that this virus is going to stay in the system for the next 2-3 years, how do we tide over the financial impact caused by this virus?

1. Emergency fund
   The 3 month or 6 month emergency funds we held would now dry up fast, given the timing of this virus – yes, beginning of an academic year. Annual or term/semester fees of schools & colleges become due from May and hence they deplete any emergency reserves we hold.
2. Interest from Bank FD
   In case you have been saving diligently over your working years and say have Rs.50 Lacs in bank FDs, you might take refuge about the sizeable corpus. However, with sub-6% interest rates today, you might only receive close to Rs.3L interest p.a, which is not sufficient to meet your liabilities.
3. Apportion money for expenses
   Another strategy most people would consider to diffuse the situation is to set aside the entire expenses for next 3-4 years. But by doing so, at least half of the Rs.50L savings gets depleted.
4. Rework the Math
   If you desire to receive Rs.6L income p.a / Rs.50k p.m, then you would need at least Rs.1 crore in bank FD. Not many people would be in such state of luxury to hold Rs.1 Crore in a bank FD.

Solution
What then is a solution to make up for the temporary loss of income/job?
Build a PASSIVE income source via a customized portfolio with a mix of financial assets.
Consider you have Rs.50Lacs that you invest in a customized portfolio (PF). This PF could pay you Rs.50k p.m / Rs.6L p.a. You could also set it up to pay you an inflation-adjusted income year over year. Your cumulative withdrawals add up to Rs.25.47 Lacs – this could have left you with a balance of only Rs.25 Lacs. But notice money in this PF grows every day and as a result it replenishes your PF balance by another Rs.15Lacs. Thus, at the end of 4 years, your PF balance is Rs.40 Lacs.

The above illustration uses a conservative portfolio. In case you wish to bring the portfolio back to the levels of initial investment, even that is achievable with some deft allocation – Are you ready to explore the Power of Portfolios?

There are over 3 crore NRIs (Non-Resident Indians) abroad. Middle east has the most number of NRIs at 1 crore, followed by US-Canada at 45 lacs & UK at 18 lacs. The wealth of India’s NRI population is estimated at $1 Trillion (Rs.73 Lac crores), which is 40% of India’s GDP.

Focus areas

When an Indian leaves his/her homeland and stays abroad for more than 182 days in a year, he/she becomes a Non-Resident Indian (NRI). The NRIs have been given special economic status and they enjoy certain benefits but are also restricted from availing others. There are several aspects of finance that NRIs need to focus when investing their earnings in India. This is in addition to dealing with earnings, investments & tax in their country of residence, making it complex for NRIs to deal with two sets of systems & rules.
1. Earnings All incomes earned outside India by an NRI/OCI (Overseas Citizen of India) are neither required to be reported nor taxable in India. But all incomes earned in India by an NRI/OCI, are taxable in India. Such incomes include rents, capital gains from sale of property, plot of land, gold, shares, mutual funds etc and interest income from fixed deposits.
2. Banking With respect to bank accounts, the main difference for NRIs is the type of accounts held, below rules apply.
a. NRIs holding resident bank accounts (single or primary holder) -Not allowed, re-designate to NRO account
b. NRIs joint holding resident savings account (but not as a primary a/c holder)
-RBI permits close relative NRIs to be joint holders in resident savings account only on a “former or survivor” basis. Such NRI close relatives are however not eligible to operate the account during the life time of the resident account holder. In this case, aadhar of NRI is not mandatory.
c. Both NRO & NRE accounts are exempted from linking with Aadhar
3. Investing NRIs/OCIs may invest in almost all assets at par with resident Indians except in agricultural land. Typically NRIs make an investment by moving money from abroad to India, a process called remittance. All non-US based NRIs are free to invest in most financial products in India. However, the avenues for investing in capital market products differs for US based NRIs.
4. Insurance Some NRIs may have bought insurance policies while they were resident in India. They may have become NRIs and some may have even changed their citizenship. The first question that arises for this category of NRIs is whether their existing policies in India are affected due to their citizenship change. Such policy holders would not be affected and a claim could still be made on their policies, except health policies in which case, claim is allowed only if treatment is taken in India.
5. Taxation Refer here:
Another common question in most NRI’s mind is whether they could remit money to their spouse’s accounts in India and invest through her account. While this is technically possible, it also allows the Income Tax department to invoke the clubbing clause and tax the NRI, as the spouse may not have any sources of income on her own.
6. Repatriation Repatriation is the opposite of remittance – it is moving money from India to abroad by an NRI. If an NRI wants to sell some assets or inherits sale proceeds of ancestral property, they are required to pay all taxes due, obtain a certificate from a chartered accountant and submit it to their bank for transfer of funds to their overseas accounts.

Make the most use of NRI-advantage!

As NRIs have a higher income earning potential for a limited 10-20 years time period, they could best utilize the time & money to create a secured financial position for themselves through proper goal based planning. The approach to investing is no different for an NRI compared to a resident Indian, but a higher net disposable income would certainly help them attain their goals quickly, if planned well.

In 2017-18, SEBI mandated all Mutual Fund companies to re-categorize their funds into well-defined scheme holdings as defined by the regulator. As a result, fund houses had to align funds with respect to their holdings, change fund names, returns, benchmarks or even mergers with other funds. These changes are as a result of SEBI’s constant endeavor to make the fund selection process investor-friendly.

Background
Today India has about 20+ fund houses and 3000+ schemes, often carrying names that do not reflect the underlying fund characteristic. This presents great challenge to a retail investor to navigate the ocean of schemes & identify the right funds for him/her. To simplify this process, SEBI in Oct 2017, mandated that all fund houses must categorize their schemes under 5 broad schemes
1. Equity
2. Debt
3. Hybrid (Equity+Debt)
4. Solution-oriented (Retirement, Children’s fund)
5. Others (Fund of Funds, Sector/Thematic & Index Funds)
The most useful change by SEBI is allowing only ONE fund under each category by a fund house. This means a fund house having 6 different multi-cap funds would have to merge all 6 under 1 fund and have to name it right to reflect this category.

Sub-Categorization
However, under each of the 5 broad categories of funds, sub-categorization has been permitted as below:
1. Equity – 11 (Large-cap, Mid-Cap, Small-cap, Value Fund etc)
2. Debt – 16 (Short Duration, Credit Risk Fund, Dynamic Bond etc)
3. Hybrid (Equity+Debt) – 7 (Balanced, Balanced Advantage, Arbitrage, Equity Savings etc)
4. Solution-oriented – 2 (Retirement, Children’s fund)
5. Others – 10 (Fund of Funds, Index Funds etc)
The re-categorization drill largely benefits retail investors as they could effectively perform a portfolio review with their investment advisors and consolidate / re-align their portfolios to their long term goals.

YES, you heard it right – in this article we are going to use a simple comparative analysis to understand how your returns could be doubled by using debt funds and trebled by using equity funds over a 5 year investment horizon.

Fixed Deposit (vs) Debt Funds
Let us say our investment horizon is 5 years. Rs.30 Lacs in FD at 6% interest p.a would fetch a post-tax return of 4.13% (considering the highest tax bracket of 31.2%). Crunching the numbers, your FD would earn Rs.9 Lacs interest in total, on which you would pay Rs.2.8 Lacs in taxes and be left with an accumulated sum of Rs.36.19 Lacs at the end of 5 years.

If you had invested the same Rs.30 Lacs in a debt fund with similar returns at 7% p.a, you could have doubled your returns in 5 years!

Fixed Deposit (vs) Equity Funds
If you had invested the same Rs.30 Lacs in an equity fund with returns of say 10% p.a and had remained invested for the same period, you would pay ZERO tax and be left with Rs.48.3 Lacs at the end of 5 years. That amounts to trebling your returns!!

Fund selection
The above *illustrative* scenarios are presented for one to comprehend how the higher returns, tax advantages and the powerful compounding principle works simple wonders to multiple your returns!! However, do not use it blindly – as to what funds to invest in, when to invest, how long to stay invested, whether to go for lump-sum or SIP and all other questions that you may have, it is best to perform a detailed investment planning with your financial planner!

Although mutual funds comes with its own risks, there is a suitable fund to cater to everyone’s risk appetite and propensity. Perform a careful fund selection with your financial planner, get your tax savings worked out and make a sound investment decision – you are in to reap good returns in the long run!

Similar to a residential property, mutual funds fall under the capital asset class and hence the tax laws of capital assets are applicable to units of mutual funds held by an individual. A mutual fund may generate income during its holding period in the form of dividends or bonus units. It could also provide capital appreciation in the long run resulting in capital gains when redeemed or sold. And as with other capital assets, it could be gifted or bequeathed to legal heirs as per one’s will or per intestate laws, whichever is applicable.

Tax classification
As a large variety of funds exist, we need to understand the subclasses under which a particular fund falls so we could determine whether it would qualify for lower taxation or any eligible tax exemptions provisioned. Broadly funds are offered to investors with a dividend or growth option.

Any periodic income received under dividend option of a mutual fund is taxable while dividends directly received by holding of stocks are tax-exempt. However such taxes on these dividends are deducted upfront by Mutual Fund houses (as DDT – Dividend Distribution Tax) and hence not directly taxed in the hands of the investor. The growth option does not provide any periodic income and hence could result only in capital appreciation.

Although mutual funds carry risks, time & again, it has proven to be one of the best tools to create wealth over long term by carefully choosing funds and aligning them with one’s investment portfolio. In this article, let us understand how mutual funds help in accumulation of wealth.

Wealth Creation using SIPs

Goal based investing
As evident from the above table, it is simple to create wealth using SIPs (Systematic Investment Plans). But tying these investments with your financial goals is important from two aspects – first it helps you to realize that a key milestone such as your children’s education could be built with small regular contributions over a fixed tenure (15 years) instead of having to save several lakhs of rupees in the last 2 years leading to their college admission.

Next it helps you to stick to your investments regardless of market conditions because every investment has a rational financial goal behind it (similar to your term insurance plan). People who do not have a goal behind an investment find it very hard to stick to the plan due to fear of loss and lack of focus.

The goals could be strategic such as child education, wedding expense or building a retirement nest or they could be near term such as buying a house or car. Most investors think that investing is applicable only during the income earning phase of one’s life. However investing is equally important in one’s retirement phase too. Most urbanites live for an average 20 years after retirement and depending on fixed deposits alone would not help them meet their retirement income needs. Whatever be your goal, your financial planner could structure a portfolio that offers you returns that are commensurate with your needs and risk propensity.

**Sovereign Gold Bond Scheme 2020-21 – Series X, XI & XII to open in Jan-Mar’2021

Sovereign Gold Bond Scheme 2020-21 – Series 2 (Tranche 39) @Rs.4540 per gram, will be open for subscription from Monday, May 11, 2020 to Friday, May 15, 2020**

In 2015, the government of India had introduced the gold bond scheme to wean investors away from physical gold to financial (paper) gold. Prior to the introduction of this scheme, the government had rolled out a few other schemes such as gold monetization scheme which did not take off. However after a year of its launch, the gold bond scheme is showing a lot of promise!

What does the scheme offer?
Presently, investors can invest 1gm to a maximum of 4kg in an issue. Every investor will get 2.5% interest paid on their investment. The gold bond comes with a lock-in period of 8 years with an option for early redemption after 5 years. The capital gains arising on redemption of these bonds have been tax exempted. This incentive is offered only from this financial year so as to encourage Indians to shift their investment from physical gold to a financial product. Holding was previously allowed only on paper, but with this tranche, demat holding is allowed as well, bringing it at par with other financial instruments. The demat method of holding brings a host of benefits such as tamper-proof ownership, protection against theft/loss, transfer to legal heirs etc.

How does it compare with physical gold?
Buying of gold involves additional cost such as wastage, weight of precious stones (if any), making charge, GST etc, adding up another 15-20% to the cost of purchase (you could be paying Rs.4500 per gm gold whose market rate is Rs.4200). And when one sells it, s/he must sell it at a discount as similar factors such as wastage, less weight of precious stones & taxes, and get back 15-20% lower than the daily rate (you could get only Rs.3600 per gm for market rate of Rs.4500). All together one loses upto Rs.1000 per gm of gold in the entire transaction.

All of these losses are eliminated in gold bond since you will get the prevailing market price on sale of the bond. In addition, one gets an interest of Rs.100/gm per year of holding the bond. A typical investment of Rs.3Lacs will yield Rs.7.5k interest p.a in addition to providing the host of benefits listed above.

Macro-level Score card
The government has made a great start with this scheme. India’s imports of gold is 1000 Tons ($35bn), of which it re-exports 150 Tons. Approximately 850 Tons of gold is consumed by Indians p.a – assuming 1% of the population (1.3crore people) invest in gold in a year, it works out to 65gm per gold buyer. In the first year of issuing these bonds, the government has attracted investments worth Rs.1,320 Crores for 5 tons of gold from 4.5 Lac investors. This amounts to 11gm (approx) per investor. With more awareness and changing times, hopefully Indians will move to a smarter way of investing in gold and there by reduce the burden on current account deficit!

Regardless of whether one falls under the 30%, 20% or 10% tax bracket, everyone rushes to save tax by availing the maximum possible exemption of up to Rs.1 Lac via the 80c/ccc/ccd/cce deductions. Due to lack of social security, government encourages savings by granting tax deduction for investing in instruments that help save for retirement. A variety of instruments are eligible for such deduction to cater to the varying risk appetite of the public – eg. PPF, NSC, 5-year Fixed deposit, ULIPs (Unit linked investment plans), Pension plans, ELSS (Equity Linked Savings Scheme) etc. Although most investors use a mixed set of instruments, insurance policies attract greater participation in tax savings.

Savings achieved, but what about returns?
We see a number of tax saving policies spring up in the last 3 months of any financial year from various insurers luring 80C deductions even for single premiums. For someone in the highest tax bracket, Rs.1 Lakh invested in a tax saving insurance scheme helps save Rs.31,200 of your income – but what about the return from your policy? Have you considered higher returns from alternate investments?

As can be seen, PPF (Public Provident Fund) or even ELSS (Equity Linked Savings Scheme) could effortlessly give you 92% more return at the end of 15 years when compared to the return from your insurance policy. Not only that, in the case of PPF, you know exactly how much you’d get back in return at the end of the 15 year term, unlike the insurance policy where you only have an illustrative figue that by no means guarantee anything. So, tax saving using insurance policy works, but don’t you want your returns to be great as well?

Financial Planner’s take!
While it is important to save tax, what is more important is to make sure that tax saving comes as a benefit (or by-product) of an investment and not vice versa. Tax planning is about making sound investment choices which would provide you with reasonably good returns along with the benefit of tax savings. In essence, choosing the right 80C qualifying instrument should not just help you save taxes, but most importantly it must ensure such investments are aligned with your goals!

Insurance firms these days offer to handle all of your life’s financial needs through a broad spectrum of insurance policies across investments, retirement planning and tax savings. Sure, these products are nicely packaged with benefit illustrations depicting your future returns. So, we need to analyze whether insurance products are really “effective” in realizing your investment, retirement & taxation needs.

What constitutes Retirement planning?
Retirement planning is all about accumulating a corpus to take care of your retirement life. Other important life goals such as children’s education, marriage and travel expenses too falls under the retirement planning needs of an individual. The main thread running amongst these needs is that they are all big-ticket items and are placed further out in your life.

Is insurance best suited for accumulating retirement corpus?
Investments for retirement planning are required to provide the best yield in its risk group so as to help you get to your goals without causing significant shortfalls/deficits. The returns of popular insurance products marketed for children education, marriage and pension plans offer much lower yields even when compared to no-risk instruments such as EPF (Employee Provident fund) & PPF (Public Provident fund). The yields from such insurance products barely beat inflation, making insurance policies effectively poor choices for retirement planning. The main criteria for choosing an instrument to meet your retirement goal is, it must accumulate the corpus by compounding at (positive) real rate of return (inflation and tax adjusted return).

You could avail the services of a financial planner to understand the kind of returns to expect from insurance policies that specifically target retirement planning areas such as pension plans, children education and marriage policies. Based on your risk profile the planner would recommend investments in a suitable asset mix and build a customized retirement portfolio which would grow at the required rates to meet your retirement goals. In effect the retirement planning process ensures that you do not hit any major negative surprises at the end of your income earning stage (or) commencement of your retirement!!

Over a 10-15 years time, a working adult typically purchases a variety of policies from his insurance agent. However buying too many insurance policies at different points in one’s life for a short term objective (eg.tax saving for 80c) without having a long term goal would only leave you with a mixed portfolio of policies with different premium paying terms, different maturity amounts, maturing at different times. Also most people do not realize that even after putting together all their policies they are under-covered with respect to their life – this is simply because they were not sold the right policies in the first place.

The classic conflict..
The objective of insurance is to provide compensation for loss and no more than that. Whereas the objective of investment is to provide the best returns commensurate with risks undertaken. Despite their conflicting foundation, investors would not choose to keep insurance & investment separate, why? This is because of the structure of the instruments and investor’s behavior response to these instruments.

Market-linked insurance premiums are designed to be very rigid, in the sense you sign the contract saying you’d pay a fixed premium for a fixed tenure and if you choose to drop out early, you accept to lose all or part of your premiums. On the other hand, mutual fund SIPs are designed to be more flexible both in terms of the amount and term – there is also no contract that says you lose all or part of your contributions should you decide to drop off anytime. Yet, investors choose the former over the latter.

Investor behavior!
Investors are usually driven by market sentiments and may hop on and off of mutual fund SIPs (Systematic Investment Plan) depending on market swings. However when they buy a market-linked insurance plan, they are most likely to stick diligently with their premium paying term due to fear of loss of premiums already paid. In a way, investors prefer the rigid “fathering” behavior of insurers and trust insurers to provide superior returns from the same market in which they could have independently invested via flexible Mutual fund SIPs. Surprisingly investor behavior shuns the freedom and flexibility of mutual fund SIPs while chooses the rigid insurance premiums.

Now the story on “returns”
When buying a market linked policy, a portion of the policy holder’s premium goes into buying risk cover (say 25%) and only the rest (75%) goes to buying units of a fund. So, you are already starting with a reduced capital compared to a mutual fund SIP. The life cover portion that the 25% buys would anyway not be adequate to cover your life. Next, even if the units earn the same returns, your insurer would deduct additional fund management costs and provide you only with lower returns than your mutual fund house.

On a cumulative basis, your absolute returns from the market linked insurance policy at the end of the 20 year term could well be 80% lower than your mutual fund SIP over the same term. There are other measurable and comparable attributes that your financial planner could throw light and provide you with the much needed insight. You could then make an informed decision  before buying your next instrument – be it a market linked insurance policy or subscribing to a mutual fund SIP!