How's your relationship with money?

How's your relationship with money? 

Is it a good one or a bad one? 

You have a relationship with money. 

And like all relationships it's either a good or a bad relationship 

If you have a good or positive relationship with money you'll 
always make and have more. You'll have more than enough 
and it will get easier and easier to make and have more money. 

If you have a bad or negative relationship with money you'll 
always have difficulty with money or you won't be able to 
make and have as much as you want. You'll end up 
struggling to make ends meet and things will get worse. 

So how do you money and you get along? 
Do you have a positive or negative relationship with money? 

If you're not sure then answer the following: 

Do you have as much money as you want? 
Do you think it's difficult to make money? 
Do you think money is the root of all evil? 
Do you think you're not meant to be rich? 
Are you afraid to make more money? 
Are you afraid that money will change you? 
Do you think there are no good ways to make more money? 
Do you think being rich is not a good thing? 
Do you think that what you have is okay and you'll 
get more one day? 
Are you hoping and praying you'll win the lottery? 

If you answered yes to any of those questions then you have 
a negative or bad relationship with money. 

That's because you have a negative association with money. 

Even hoping and praying that you'll win the lottery is a negative 
association because it says that you don't believe you can make 
more money on your own. So you're hoping somebody will simply 
give it to you or you'll somehow win it. You try to win but you can't 
because you have a negative relationship with money. Your negative 
thoughts and beliefs about money prevent you from getting more. 

And this negative relationship with money pushes money away from you. 
You don't attract and find new ways to make money and you make 
the wrong decisions about money - so you end up in more debt or 
you just can't seem to make as much as you want. 

You have to change your relationship with money. 
You have to create a positive relationship with money. 
You have to give your subconscious mind and your inner powers 
new instructions for making money. 
You have to create new thoughts and new beliefs about money 
so that you attract, make and have more. So that you get your powers 
to bring you more and more money - I show you how: 

Your relationship with money is based on your thoughts and beliefs 
about money. These thoughts and beliefs are picked up by your 
inner powers and your subconscious mind. They either bring 
you more money or make you lose and spend your money - it all 
depends on your thoughts and beliefs about money. 

When you have a positive relationship with money you have 
positive thoughts and positive beliefs about money - you completely 
believe that you can and will make money. When that happens you 
automatically attract the right money making opportunities, you find 
new ways to make and have more money, and you continually 
make more money. You become a magnet for money. 

When you have a positive relationship with money you automatically 
direct your powers to bring you more and more money. So it gets easier 
to make and have more money. 

But when you have a negative relationship with money you have 
negative thoughts and negative beliefs about money. You don't think 
and believe you can make and have more. You actually 
direct your powers to bring you less and less money. So your inner 
powers and your subconscious mind make sure that it gets 
harder and harder for you to make and have more money. 

You need to create a positive relationship with money. 
And you do that by changing the messages about money that you're 
sending to your inner powers and subconscious mind. Then you'll get 
your powers to bring you more and more money. 
Now there are simple steps you can follow to create that positive 
relationship with money so that you have and make more. So 
that your powers brig you more and more money 

Change your relationship with money so that you have 
a positive money relationship. 
Then you'll attract and have more money. 
Use your powers to bring you more money by giving them 
the right instructions and developing that positive relationship 
wit money so that you have more. 
Stop struggling to make more. Stop working harder and longer. 
Use your powers to bring you more money by giving them the 
right directions - just follow the steps I outline 

You can and will make more money when you 
have a positive relationship with money. When you 
use your powers to bring you more money... 

Wishing you tremendous wealth and success... 

Dear All,

Please find below a good and interesting article by our advisor friend Mr. Srikanth Matrubai  as published in Advisor Khoj for your reading:

 

Asset allocation will ensure consistent returns

Every Investor and Advisor is focused on trying to achieve consistently above average returns by investing in the BEST Asset Class. No Single Asset Class consistently beats all other asset classes at all points of time. Assets have their own way of behaving and tend to perform at variance. Still, every investor worth his salt is on the hunt for the Best Performing Asset Class which will give him Above Average returns.

After seeing secular Bull Run in Sensex in 2006-2007, he invests in Mutual Funds only to see the Market crash by a massive 52%. Crestfallen, he moves to Gold after its spectacular run in 2009-2010, only to see Gold giving a return of less than even Fixed Deposit in 2012.

Once bitten twice shy, he sees the Sensex run up before Elections and post elections with apprehension and is unsure of what to do. As seen from the past data, in 2008, when Equity crashed by a massive 52%, Gold gave a positive return of above 25%.

But in 2012, Sensex gave a return of 27.5% whereas Gold gave a return less than Fixed Deposits! And as we all know, for the past 2 years, Sensex has hugely outperformed both Gold and Fixed Deposits by a wide margin.

At different points of time, different assets have outperformed. If you see the above data, at some point, Gold investors would have made more money, at other points, investors in Debt funds would have been richer and at some point equity investors would have looked smarter.

Now, I am sure everyone would want to be an investor who has made smart moves at all points of time. This is next to impossible.

What is possible is however, making above average money in all types of markets over a longer period of time on a consistent basis.

HOW TO ACHIEVE THIS?

Simply by Asset Allocation!

Different assets perform differently and invariably some asset will tend to outperform the other and thus gives cushion and boost to your overall portfolio returns. Every investors dream is to create Alpha Returns and on a consistent basis.

Why investors, even Advisors are always trying to do the same. But, true financial advisors know that this is next to impossible and thus try to achieve consistently above average returns which beat Inflation with a wide margin so as to ensure that you create a Mega Wealth.

Just because Gold or Equity has given super normal returns does not mean that you should put all your money in that asset. Chasing "HOT" asset could give you ultra high returns but also carries great risk and could cause severe dent to your portfolio in case of a sharp fall.

This would not only expose your portfolio to the risk of that asset but also affect your diversification and in turn leave your portfolio venerable to high volatility. A concentrated portfolio may give you Alpha returns but also carries greater risk.

Thus an Asset Allocation Fund will ensue that you are not exposed to any one asset.

Innumerable past data analysis has proved that efficient Asset Allocation is what results in 90% of your gains and only 10% is due to choice of stocks/funds. Your portfolio performance does not depend on market timing, unlike what is commonly believed.

HOW DOES ASSET ALLOCATION GIVE YOU CONSISTENT ABOVE AVERAGE RETURNS?

Let us take an example:

In the above example, the returns of 2012 is taken, the Sensex had gained over 25 per cent, compared to 12.95 per cent in gold and Liquid Fund at 9%.

Now, what happens when you bring all the Asset class allocation to the original levels is that you are "Booking Profit at high Levels and buying cheap at lower levels" which is actually 'Timing the Market' in different words.

Past history has shown that 2 out of 3 assets have been consistently out performers and hence you ALWAYS make money in a Multi Asset Fund. A True Portfolio should consist of a judicious mix of Equity, Gold, Debt (FDs, Liquid funds, etc) and Real Estate.

Doing this on your own requires not only good knowledge of various markets but also involve huge cost of transaction, not to forget the taxation issue. Also, are you sure you are disciplined enough to do this regularly without getting carried away with the attraction of any asset class?

The best option would be to do this through Mutual Funds by going for Asset Allocation Funds with the help of your Financial Advisor. The Financial Advisor will also eliminate the "bias" that you may have towards certain Asset Class. The Financial Advisor will also enable you to zero in on the right Percentage of Asset Allocation.

ANY NEGATIVES ?

The one negative in Asset Allocation Fund is that these Funds are taxed as Debt Funds and you will be paying taxes even if you stay invested for more than 1 year. Short-term capital gains are taxed according to the investor's tax slab while long-term capital gains tax is 10 per cent without indexation and 20 per cent with indexation.

Do note that the name Asset Allocation could be a misnomer. Some Funds just move assets between Large Cap, Mid Cap and Small Cap and call them Asset Allocation funds! Some funds are slightly better that they move between Equity and Debt, but for me they are not Asset Allocation Fund but Balanced Funds or MIPs.

For me, the true Asset Allocation Fund is the one which moves between Gold, Debt and Equity. There are mutual funds like the Axis Triple Advantage Fund, Taurus MIP Advantage Fund, Canara Robecco Indigo Fund which do this gymnastics on your behalf sparing you the difficult decision of moving your assets.

CAVEAT

Take the Advise of a Financial Advisor before going for Asset Allocation. There is no hard and fast rule that you should have a fixed percentage of money in each asset class.

Each individual will require different percentage of Asset Allocation depending on his/her goal, risk appetite, cash flows, investment horizon, etc.

Also, be warned, that a Diversified Multi Cap Equity Fund has the capacity to outperform Multi Asset Funds especially in strong bull markets as is expected to happen in India going forward.

REGARDS

Dear All,

A good article as appeared in Advisor Khoj on Tax planning on sale of Real Estate for your reading:

Tax Planning: How to save taxes on profits from sale of Real Estate investment

Even though the real estate market has been somewhat subdued in the last one to two years, over the past ten years, real estate in India has given good returns. Enticed with the idea of owning a house and seeing their assets rapidly appreciate in value, countless Indians have invested a large part of their savings in real estate. Buying and selling residential or commercial real estate is part of the portfolio of many investors. Many cities and suburbs have seen a veritable real estate boom in the last decade. While real estate investments of many investors have appreciated in value, real estate investors cannot escape tax consequences when they book profits. To escape tax consequences, it is a fact that some real estate investors transact in cash. However, it is illegal to deal in cash and the consequences are severe, if investigated by the Income Tax authorities. It is possible to save taxes on your real estate investment, without having to resort to illegal means. In this article, we will discuss how you can save capital gains tax on your real estate investment.

What is capital gains tax on Real Estate?

Capital gain in the real estate context means the profit earned from sale of your real estate investment, residential or commercial. The tax consequence arising out of capital gains is called the capital gains tax. From a real estate perspective there are two kinds of capital gains.

• Short term capital gains: If the capital gain is on sale of property which is owned by the seller for less than three years period then it is short term capital gain. Short term capital gain is taxed as per the income tax bracket of the seller.


• Long term capital gains: If the capital gain is on sale of property asset which is owned by the seller for more than three years period then it is long term capital gain. Long term capital gain is taxed at 20% with indexation (we will discuss, how to calculate long term capital gains, in the next section of the article).

How to calculate capital gains tax on Real Estate sale?

Let us understand with the help of an example. Let us assume that, you are an investor in the highest tax bracket (i.e. 30% tax bracket) and you bought a property on July 1, 2011 at a cost of Rs 30 lacs. Let us further assume that the property value appreciates at a rate 15% per annum. If you sold the property in July 1, 2013 at a price of Rs 40 lacs, what is your capital gains tax?

In this case, the short term capital gains tax is Rs 3 lacs and the net return is Rs 7 lacs.

But what if you sold the property on July 15, 2014 instead of July 1, 2013? Since the holding period is more 3 years, long term capital gains will apply. Let us assume at the same rate of appreciation, the value of property as on July 15, 2014 is Rs 46 lacs. What is your capital gains tax?

Therefore, we can see that it is advantageous to hold on to your property for more than 3 years, because the long term capital gains tax rate with indexation is much lower than short term capital gains tax rate. Also, investors should note that, if they have invested funds for repair of their property, such repairs can also be indexed and included in the calculation of capital gains from a tax perspective.

How is the holding period defined?

The holding period is defined as the period till date, from which you were granted the “Right to own the Property”. The Bombay High Court has clarified the definition of capital asset as defined in Section 2(14) of the Income Tax Act. From an Income Tax perspective, the right to obtain conveyance of immovable property was clearly “property” as contemplated by Section 2(14) of the I.T. Act, 1961. The issue of allotment letter gives the right to obtain conveyance. Therefore the holding period from an income tax perspective applies from the date the allotment letter was issued to you.

How can you save Long Term Capital Gains Tax?

Under Section 54 of the Income Tax Act, the seller of a real estate asset can claim for long term capital gains tax exemption, through these two methods.

• The seller must use the capital gain, arising out of the sale of his or her real estate investment, to buy or build another house


• The seller must use the capital gain, arising out of the sale of his or her real estate investment, to invest in specified capital gains bonds.

Therefore, continuing with our above example, if you have made a profit of Rs 15 lacs on the sale of your property, and you re-invest the entire capital gain amount (e.g. Rs 15 lacs) in a new property in the same financial year when the sale was made, then you will be exempt from long term capital gains tax on the sale of your property.

What if you have not been able to identify a property to avail benefits under Section 54?

If you are not able to identify a property in same financial year after selling property, you can still avail the tax benefits under Section 54 of the Income Tax Act, provided you buy another house in 2 years or build another house in 3 years. To avail of long term capital gains tax benefit, you have to open a special account called capital gain accounting scheme and deposit the amount of capital gains in the capital gains account before the due date of filing of income tax returns for the assessment year in which the asset sale was. All withdrawals from the capital gains account should be made only for purchase of property. Continuing with our above example, if you deposit the entire capital gain amount (e.g. Rs 15 lacs) in a capital gains account before the date of filing of IT returns for the assessment year 2014 - 2015, which will be sometime in end of July 2014, you will be able exempt from long term gains. You will be able draw funds from your capital gains account to buy another house in 2 years (i.e. by 2016) or build another house in 3 years (i.e. 2017). However if you fail to purchase a property within three years after selling your property, the entire sales proceeds will be exposed to Long Term Capital Gains and the tax consequences thereof.

How to open a Capital Gains Account?

You can open a capital gains account in an authorized bank. The Government has notified 28 banks which can open the Capital Gains Account on behalf of the Government. You have to apply for opening the account by filling out the required application form (Form A) and submit proof of address, PAN card and photograph. You cannot withdraw funds from a capital gains account using a cheque book or ATM, like you do in your normal savings bank account. There are procedures to be followed to withdraw funds from the capital gains account.

Investment in Specified Bonds

Section 54EC of Income Act provide that if the seller invests whole or part of capital gains arising from the sale of asset in specified Capital Gains, within a period of six months of the sale, the proportionate capital gains so invested in the long-term specified asset, out of the whole of the capital gain, shall not be charged to tax. The proviso to the said sub-section provides that the investment made in the long-term specified asset during any financial year shall not exceed Rs 50 lacs. There was an ambiguity in the language of the specific provision in Section 54C. As a result, if you made a profit of Rs 1 crore on the sale of your house transferred in December, you could invest Rs 50 lacs in March of that financial year and further Rs 50 lacs in April of the next financial year. However the 2014 Budget presented in the Parliament a few days back has clearly specified that, the maximum deduction which can be availed is Rs 50 lacs in one financial year in which the sale was made and separate deduction cannot be claimed in the subsequent financial year. Therefore the maximum tax benefit you can get under the provisions of the new Budget is Rs 50 lacs.

Conclusion

Real estate is an attractive and popular investment option for many investors in India. With careful planning you can save a substantial part of your long term capital gains tax, without having to resort to illegal means.

http://www.advisorkhoj.com/articles/Tax-Planning-Strategies/Tax-Planning:-How-to-save-taxes-on-profits-from-sale-of-Real-Estate-investment?utm_medium=email&utm_source=MailDirect&utm_campaign=Advisor_18_07_2014_1#.U8-_WOOSxWg

Dear All,

Kindly find below a good write up about HUF tax benefit by Girija Gadre of CIEL have a good reading.

Regards

A K Narayan

http://ciel.co.in/article_comment.php?a_id=2179

Formation of HUF for tax benefit: All you want to know

by Girija Gadre

A Hindu Undivided Family (HUF) offers specific advantages as far as taxation is concerned. The Income Tax Act and Wealth Tax Act recognise the HUF as an independent assessable or taxable entity. Hence, HUFs enjoy all deductions and exemptions under the IT Act independent of the income and tax liabilities of its members. The Hindu Law defines the HUF as a family, which consists of males lineally descended from a common ancestor and includes their wives and unmarried daughters.

Members: An HUF is automatically constituted after marriage. It can also be formed by partition of an existing HUF into multiple units. A suitable name needs to be given to the HUF, taking into consideration the prevalent laws and the business that it intends to undertake.

Corpus: An important requisite for the constitution of an HUF is its corpus or capital. This capital is separate from the assets owned by its members. The property received by way of a will in favour of the HUF can become the corpus.

Deed: Though it is not mandatory to have a deed for the formation of an HUF, it is advisable to execute one from a legal and taxation perspective. It should include details of the karta, members of the HUF consisting of coparceners, and other family members, the corpus as well as the business of the HUF.

PAN: An HUF has a separate PAN and the karta must apply for one. The PAN needs to be quoted while making investments and carrying out financial transactions of the HUF.

Points to note

> The Hindu Law comprises two schools of law which govern the HUF. These are Dayabhaga school, prevalent in West Bengal and Assam, and Mitakshara school, which is prevalent in the rest of India.

> The karta must file the income tax and wealth tax returns on behalf of the HUF, in addition to his personal tax returns.

This article appeared in ET Wealth dated June 10, 2013.

Should you Pre Pay your Home Loan

Should you Pre Pay your Home Loan

Apr 22, 2014 by Dwaipayan Bose | Home Loan

26 Downloaded

India has been in the grip of a very high interest rate regime over the past few years. Home owners have seen a larger and larger portion of their equated monthly instalments (EMIs) going into interest payments every month. With the recent increase in inflation, fears of another rate hike by the RBI in June policy review have again resurfaced. In such an environment, many people who have home loans are considering whether they should pre-pay their home loans. In this article, we will discuss various factors involved in home loan pre-payment.

What is pre-payment?

Pre-payment is paying back an additional amount of principal, over and above the regular EMI, ahead of time. Pre-payment reduces the principal outstanding. You can use pre-payment either to reduce your EMIs or reduce the balance tenure of your home loan. After an RBI notification in 2012, banks have stopped levying pre-payment charges. This has made pre-payment an even more attractive option.

How does pre-payment benefit the home owner?

First let us understand how interest is calculated in a home loan. Home loan interest rate is usually calculated on a monthly reducing balance basis. This means that your home loan interest for a month depends upon the outstanding principal balance at the beginning of the month and the applicable interest rate. The EMI is a combination of the interest payment for the month and a part of principal payment, such that the loan is fully paid off at the end of the tenure of the home loan. You can check out our EMI calculator to get a break up of the interest and principal components of your EMI. Let us understand how pre-payment benefits you, with the help of an example. Suppose you have taken a Home loan of Rs 50 lakh for 20 years at an interest rate of 12% floating rate. Your monthly EMI in that case, will be Rs 55,054. The chart below shows the interest and principal payments of your home loan EMI.

The red portion of the chart represents interest payment and the green portion of the chart represents the principal payment. The horizontal axis represents the number of years of the loan tenure. As you can see, in the earlier part of the home loan term most of the EMI goes towards interest payment. In fact, for the first 8 years of the loan over 75% of the EMI goes to interest payment. Over the tenure of the loan you will pay a total interest of over Rs 82 lakhs. The total interest is much more than your total loan amount.

Now let us assume you make a prepayment of Rs 1 lakh, after 1 year. What happens to your loan? If you keep paying the same EMI, the total tenure of the loan will reduce from 20 years to 18 years 7 months. You also have the option of reducing your EMI and keeping the tenure of your loan the same. Your reduced EMI will be Rs 53939, about Rs 1000 per month less than your current EMI.

What if you made a prepayment of Rs 2 lakhs after 1 year? If you keep paying the same EMI, the total tenure of the loan will reduce from 20 years to 17 years 5 months. If you keep the tenure same and reduce your EMI, your reduced EMI will be Rs 52823, more than Rs 2000 per month less than your current EMI.

Let us look at total interest paid by you over the loan tenure in either case. As discussed earlier, the total interest paid by you over the 20 year period, assuming constant interest amount is Rs 82 lakhs. If you make a prepayment of Rs 1 lakh after 1 year, the total interest paid by you over the tenure of the loan reduces to Rs 74 lakhs (if you retain your EMI), a saving of Rs 8 lakhs. If you make a prepayment of Rs 2 lakhs after 1 year, the total interest paid by you over the tenure of the loan reduces to Rs 67.5 lakhs, a saving of nearly Rs 15 lakhs. Clearly pre-payment makes a lot of sense. Pre-payment reduces your interest expense and leaves you with more money for your investments.

After pre-payment should you retain the EMI or reduce the EMI and retain the tenure?

As discussed earlier, when you pre-pay you have the option retaining your EMI and reducing the tenure of your loan, or retaining the tenure and reducing the EMI. Which is a better option? Let us revisit our earlier example. You have 20 year, 12% floating rate loan of Rs 50 lakhs, for which you pay an EMI of Rs 55,054. You make a pre-payment of Rs 1 lakh after 1 year. Before the pre-payment your outstanding loan balance was Rs 49 lakhs 36 thousand. After you make the pre-payment the outstanding loan balance reduces to Rs 48 lakhs 36 thousand. As discussed, you have 2 options:-

• You retain your EMI at Rs 55,054 and reduce the tenure of the loan from 20 years to 18 years 7 months


• You retain the tenure at 20 years and reduce your EMI to Rs 53,939

In order to decide between the 2 options, we need to understand the difference between the EMIs of the two options. In the first option you continue to pay an EMI of Rs 55,054 and in the second option your EMI is 53,939. In both options, the outstanding balance at the beginning of year 2 is Rs 48 lakhs 36 thousand. Remember, interest of the home loan is paid on the loan balance. So the interest expense for the month is same in both the options. So where does the extra Rs 1100 EMI payment in the first option goes? It goes to the principal payment. So your loan balances will be lower in the first option. Since interest is paid on a reducing loan balance basis, your interest expense for subsequent months will be lower in the first option. Let us look at the interest payment over the tenure of the loan in both the options.

• Option 1 (Retaining EMI and reducing the tenure): Total interest payment over the tenure of the loan is Rs 74 lakhs


• Option 2 (Retaining the tenure and reducing the EMI): Total interest payment over the tenure of the loan is Rs 80 lakhs

Therefore, if you can, you should opt for retaining your EMI and reducing your loan tenure. If you were able to pay the higher EMI from your monthly savings, then you should continue to pay the same EMI as part of good financial discipline. You will get the benefit of saving interest expense over the tenure of the loan that you can re-invest for your other long term financial objectives. Also do you not, want to be debt free earlier?

Should you pre-pay on a regular basis or wait till you accumulate a corpus for pre-payment?

Let us examine this question, by revisiting our earlier example. Let us look at 2 options.

• Option 1: You pre-pay Rs 1 lakh every year out of your savings


• Option 2: You accumulate Rs 1 lakh every year for 5 years, and then pre-pay

Intuitively scenario 1 is better, since you will have reduced the outstanding loan balance by the pre-payment amount, as early as the second year of your loan and then every year going forward. Since interest is calculated on a reducing balance basis, this option is better than waiting 5 years to accumulate a substantial corpus to pre-pay. But what is the financial benefit? Let us examine.

• Option 1: Assuming you retain the EMI, by the beginning of year 6, the loan tenure will reduce to 15 years 8 months. Your interest expense over the loan tenure is Rs 58 lakhs.


• Option 2: Assuming you retain the EMI, by the beginning of year 6, the loan tenure will reduce to 16 years 5 months. Your interest expense over the loan tenure is Rs 63 lakhs.

It is clear from the above example that, you should pre-pay on a regular basis, instead of waiting to accumulate a corpus. Some banks stipulate a minimum pre-payment amount. As part of good financial planning discipline, you should set yourself a pre-payment target every year and pre-pay regularly.

Tax benefit for principal pre-payment

You can claim a deduction of up to Rs 1 lakh on home loan principal payment under Section 80C of the Income Tax Act. You can claim the benefit irrespective of whether you occupy the property or not. One should note that for calculation of principal payment, both principal payment under EMIs and principal prepayment should be considered. If you have bought your property from a real estate developer, you should note that you can claim the 80C deduction only once you have received possession of your property. If your builder has not handed over possession to you, you will not be eligible for 80C benefits. Long possession delays have now almost become the norm, not the exception. If you are desirous of getting tax savings on your principal payment, you should take “time to possession” in account while buying your property. Do not believe in what the builder promises. The track record of even reputed builders is not very good. Do your own research. Look at the track record of the builder, look at the state of construction and take feedback from buyers who have bought houses or apartments by the builder.

You should also note that, principal payments would only qualify for the deduction as long as it is within the overall Rs 1 lakh limit in Section 80C. Employee provident fund contributions, insurance premiums, housing loan principal repayments, tuition fees, public provident funds, equity linked savings schemes and NSC deposits are also covered under the same Rs 1 lakh limit. Your bank or housing finance company will give you an income tax certificate, which you can submit as a proof for claiming 80C deduction. However, you should not let the Rs 1 lakh limit under 80C be a ceiling for your home loan pre-payment. If you can pre-pay more than Rs 1 lakh per year, you should go ahead and pre-pay. It will be financially beneficial for you. Let us revisit the example above. If instead of an Rs 1 lakh pre-payment you made an Rs 2 lakh pre-payment, you save an additional Rs 7 lakhs in interest expense over the tenure of the loan. So, even if you do not get 80C benefit for the additional Rs 1 lakh pre-payment, you should still go ahead and pre-pay, because you will save on interest expense, which you can re-invest to create wealth for yourself.

Prioritizing between insurance premium, PPF and principal pre-payment

You should pay your life insurance premium first. That should be non-negotiable for you. Life insurance is about providing safety for your family, in the event of an unfortunate demise. As part of good financial planning discipline, you should also invest in PPF for your retirement planning. Retirement planning is an important goal that you should not compromise on. Ideally, you should be saving enough for your insurance premiums, retirement planning and home loan pre-payment. However, if you need to compromise, then you need to balance your PPF and home loan pre-payment. Remember PPF gives you a return of 8.7%, however on home loan prepayment you can save 11 – 12% interest on the principal pre-paid.

Should you pre-pay if interest rates are coming down?

Some people argue that in a declining interest rate environment, one should not pre-pay. I completely reject that argument, especially if you are in the early stage of your home loan tenure. A pre-payment reduces your loan outstanding on a permanent basis, and therefore you will get the benefit of saving interest expense irrespective of whether interest rates are lower or higher. True, if interest rates are declining the benefit will be lower. But remember your home loan is for 20 years. Interest rates will not decline for 20 years. It may decline for some time, but it will go up again depending on the demand and supply of credit. Further, home loan interest, in all likelihood, will be higher than returns from most debt investments. Therefore, it always makes sense, to pre-pay your home loan, irrespective of the interest rate regime.

Would you be better off pre-paying your home or investing the money?

It would really depend on the return on your investment. Let us examine this, by expanding on our earlier example. To recap, you have 20 year, 12% floating rate home loan of Rs 50 lakhs, for which you pay an EMI of Rs 55,054. Let us assume you prepay Rs 1 lakh every year, while retaining your EMI and reducing the loan tenure every year. If you can prepay Rs 1 lakh every year then your loan will be fully paid by 13 years 4 months only, instead of the initial tenure of 20 years. The chart below shows the interest and principal payments of your home loan EMI, with a prepayment of Rs 1 lakh every year.

Now let us look at the alternate scenario. If you do not make any pre-payment, your loan balance at the end of 13 years 4 months will be Rs 31 lakhs 22 thousand. Let us assume instead of making pre-payments, you invested Rs 1 lakh every year. Let us look at what the returns will be in 13 years 4 months. Please see the chart below, for the value of the Rs 1 lakh investment per year in 13 years 4 months at various rates of returns (amounts in Rs lakhs).

From the chart above it is clear that, you are better off investing instead of pre-paying your home loan, only if the compounded annual returns are 13% or higher. At a 13% compounded annual return, your Rs 1 lakh annual investment will grow to Rs 31.55 lakhs, which will be sufficient to pay off your home loan. Which investment can give you 13% post tax compounded annual returns over 13 years? Clearly, the only asset class which can give that kind of returns is equities. In fact, top performing equity linked saving schemes from mutual funds, which also are eligible for 80C benefits, have given that kind of returns and even more over the long term. But you should also note that mutual fund investments are subject to market risk, whereas principal pre-payment is not subject to market risk. So should you pre-pay your principal or invest in equity mutual funds? It depends on your risk tolerance and investment horizon. If you have a high risk tolerance and long investment horizon, you are better off investing in equities. In my opinion, you should do both. You should aim to pre-pay your principal on a regular basis to reduce your loan outstanding and you should also invest in good equity mutual funds through systematic investment plans. If you have windfall gains, as a result of a one-time income (e.g. annual bonus, sale of asset etc.) you should pre-pay your home loan.

Conclusion

In this article, we have discussed various factors involved in pre-paying your home loan principal. Pre-paying your home loan is always a good idea. While pre-paying your home loan, you should always adhere to solidfinancial planning disciplines. For example, you should always ensure that you have adequate life insurancecover and you have adequate funds set aside for financial contingencies. If you have a home loan and you plan to invest instead of pre-paying the principal, you must ensure that the returns on investments are higher than your home loan interest rate and that you are comfortable with the risks associated with the investment. You should consult with a financial planner who will help you plan your investments, in terms of how much you should pre-pay and how much you should invest, and more importantly guide you to invest in the right assets

Please find below a good article as appeared in Morning Star for your reading:

http://www.morningstar.in/posts/23678/5-retirement-myths.aspx?utm_campaign=bulletin&utm_medium=email&utm_source=morningstar

5 Retirement Myths

Barry LaValley, a retirement-transition expert based in British Columbia, Canada, has some interesting pointers concerning retirement. LaValley is president of the Retirement Lifestyle Center, an education and research firm that provides retirement-transition coaching, delivered through financial-services companies, in Canada, the U.S. and Australia.

He explained to Morningstar Canada that people view retirement as a “deliverance, the pot at the end of the rainbow". He quickly points out that it does not take long for them to get disillusioned with that notion.

Here he cites the most common myths and misconceptions about retirement:

Myth 1: Retirement is a destination.

It is not a place you arrive it. It is a transition, not a destination. Many view retirement as an extended holiday or a 30-year weekend. In part, this belief is job-driven because people are moving into this stage after their full-time careers.

A lot of people say to me that retirement is everything they wanted, and more. I absolutely believe that's true, but they attribute that to being retired. These people were happy at all stages of their life. It's not the retirement that made them happy, but the changing circumstances that allowed these individuals to have more time to pursue what they enjoy.

Myth 2: Retirement is one long life phase.

Many people believe that retirement is a new life, a third age, the longest life stage. In reality, it's a multi-phase journey. In fact, you will go through 6 to 8 very distinct transitions in your retirement life, driven by your health, the health of your spouse or partner, or the health of someone you care about. Some of the different phases of retirement include the excitement phase leading up to retirement, the stress phase associated with the transition, and the honeymoon phase during the initial months. Next is the routine stage, followed by the readjustment stage when something goes wrong.

There will be lots of things that will happen in your life as you get older that can change your whole life on a dime.

Myth 3: Retirement success depends on reaching a big financial number.

Financial security doesn't guarantee retirement success. There is too much focus in the financial community on reaching a certain big number. A lot of people can retire on considerably less than they've been told. Happiness in retirement is a function of having a positive outlook, engagement in life, nurturing relationships, and a sense of accomplishment. Good health is one of the biggest keys to a successful retirement.

John Rekenthaler, vice president of research at Morningstar, penned a fantastic piece titled The 80% savings myth.  He explains how the financial services industry misleads the everyday investor by selling the notion that one needs 80% of pre-retirement income to have a successful retirement.

Myth 4: Spending is constant throughout retirement.

Tied in with the earlier myth is the notion that spending will be the same throughout retirement. People tend to spend "like drunken sailors" in the first few years of retirement before settling into a pattern. As time goes on, spending tends to concentrate more on family and health issues. Travel, a common activity in the early phase of retirement, tends to drop off in later years with fewer and less ambitious trips.

Myth 5: Retirement is a couples issue.

Don't bank on it. In fact, it could be a single person's issue. For instance, the average age that a woman first becomes a widow in Canada is 55 and 60% of Canadian women over age 65 are single, widowed or divorced.

So what must you do?

LaValley says the period before you embark on retirement is the ideal time to re-examine your relationship with your financial advisor, to be educated on issues above and beyond money. "It doesn't mean that retirement is difficult," he says,” but if you go in without an understanding or a plan, you tend to spin your wheels. You'll eventually get it, but you might not get it until you've missed some of your best years trying to figure it out."

This article originally appeared on Morningstar Canada and has been edited for anIndian audience. A version of this appeared on the India website earlier.