What is Goal Based Financial Planning

What is goal based planning?

Goal based financial planning is a method which can help you achieve multiple goals across different stages of life. There are some common life-stage goals of most investors e.g. buying a house, children’s higher education and marriage, retirement planning and leaving an estate for your loved ones. In addition to these goals, some clients may have other goals specific to their individual needs and aspirations e.g. planning for a foreign vacation, buying / building a vacation home, saving a corpus to start a business, accumulating for early retirement etc. Goal based planning is the process of defining different goals, quantifying these goals factoring in inflation and having an investment plan to meet these goals.

Why is it required?

Having a goal based financial plan, saving and investing according to your financial plans, will help you ensure financial security and achieve different goals in a time-bound way.

Many investors think that saving money will ensure financial security and success in achieving goals. However, saving money is not enough. We have multiple goals in life. To achieve your long term financial goals, you need to grow your money by investing it. Your money will grow more, if you invest over a longer period of time – this is known as power of compounding. Financial planning will help you estimate how you need to save for different goals, where to invest your savings and for how long to invest.

Financial planning also prepares you for unexpected adversities e.g. unexpected loss of employment, serious illnesses, untimely death etc, which may put your and your family’s financial goals at risk. Having a contingency fund in liquid investments, adequate health and life insurance covers are also part of financial planning.

What are the steps involved in goal based planning?

Goal based financial planning is usually a six step process:-

• Setting goals: You should lay-out all your goals in different stages of life. You should estimate how much money you need for each and always factor in inflation, especially for your long term financial goals.


• Expense Budgeting: You should assess your post tax income, your expenses (essential and discretionary), assets (bank deposits, mutual funds etc.), liabilities (car loans, home loans etc.) and create your budget. Once you have a budget, you know how much you can save and invest in a systematic way for your financial goals. Suggested reading: Maximise your SIP returns in volatile markets


• Assessing your risk appetite: This is an important step in financial planning because you need to take the right amount of risk to achieve your financial goals. If you take too much risk, you may lose your hard earned money due to adverse market movement at the time you need it. If you take too little risk, you may not be able to get sufficient returns to meet your goals. Your risk appetite depends on your age, stage of life, goal time-lines and financial situation. You should always invest according to your risk appetite.


• Asset allocation according to goals and risk appetite: Risk and returns are interrelated – higher risk, higher returns in the long term and vice versa. Different asset classes have different risk profiles, e.g. equity has a higher risk profile compared to gold or fixed income. Remember that for different financial goals, you should invest in the right asset class depending on the goal and risk appetite.
  
  For example you should invest in equity for long term goals like children’s higher education and your retirement. You may like to read this >how asset allocation helps diversify investments


• Prepare an investment plan: This is the final step of the financial planning process. Once you know your goals, risk appetite and asset allocation profile, the rest of the job is simply to calculate how much you need to save and invest based on goal amount, goal horizon and expected return on investment based on your asset allocation. Sometimes in this step, you may realize that you need to save more and cut down some discretionary expenses. Do not despair, if you are not able to save more. You should start with what you can save. Over period of time, as your income goes up, you will be able to save and invest more. You can use facilities like Top-up SIPs, to increase your investments over time and achieve your goals.

Advantages of having a goal while investing

• Save and invest more for your goals: It is a no brainer that the investor who saves and invests more will be able to create more wealth. Attaching investments to goals, instils greater determination and doing what is required to achieve the goals. It has often been seen that families which practise goal based investing save and invest more.


• Disciplined investing: Discipline in investing e.g. sticking to your SIPs irrespective of market conditions, adhering to your asset allocation, regular re-balancing of the portfolio etc., are essential in achieving success. Since there is an emotional attachment with financial goals, investors are likely to be much more disciplined in goal based investing.


• Helps you reduce debt / be debt free: Cost of debt can be a huge burden on your savings and harm your long term financial interests. If you practise goal based investing, you can fund big ticket spending e.g. vacation, buying / upgrading your vehicle, bigger down payment for house etc. from your investments, reduce debt burden and interest payments thereof.


• Improve lifestyle in a sustainable way: Despite rising disposable incomes, average household debt in India is rising. This shows that investors are funding their lifestyles through credit cards, personal loans etc. Debt funded lifestyle improvements may not be sustainable. Sometimes it is seen that, parents spend a bulk of their savings on their children’s higher education and then compromise on lifestyle to save for their retirement. If you practise goal based investing, you can improve your lifestyle in sustainable way, without relying on debt or compromising on other financial goals.


• Save taxes: Having an investment plan can help you save taxes under section 80C and also invest in the most tax efficient investment options according to your financial goals and asset allocation.

Why and how you should stay focused?

We had mentioned earlier that discipline is essential in achieving financial success. Focus and discipline are two most important attributes for achieving success in any walk of life. Focus is a mental / emotional quality that prevents you from getting distracted from your goal. Discipline is how you maintain focus as you work towards your goal. Focus and discipline are required for planning and execution of our financial goals.

For example, when we plan for a holiday, we are focused on the destination, mode of transport, duration of the holiday, travel dates, developing an itinerary and planning to the minutest level to make the most of the place we choose. While some bohemian travelers may disagree, most family persons will agree that careful planning makes a holiday much more enjoyable. You will be able to save costs by booking your tickets and hotels early, know what to do, have sufficient time to enjoy different sights and experiences, avoid inconveniences for your family etc.

Similarly when we think of cooking, we plan on what cuisine we want, the ingredients, style of cooking, garnishing, serving it and finally devouring it. It involves a fair amount of planning, including knowing the recipe, prepping the vegetables, making the masala, having sufficient time for the masala and vegetables to cook properly, garnishing and finally serving it to your friends or family. Going without a plan is a recipe for disaster like, scrambling at the last minute, risking injury to your fingers due to desperate hurry, burnt masala and not having enough time to cook the dish properly.

Like the travelling and cooking examples, planning is crucial to success in your financial goals. Not having a plan will lead to undesirable experience and much more serious consequences than the two examples above. Hence the importance of goal based financial planning.

Conclusion

In this article, we discussed why you need to have a goal based financial plan. It is equally important for investors to understand, that an investment plan on paper or spreadsheet is useless unless you start executing on it. The earlier you start investing, irrespective of amounts, higher is your chance of succeeding in your financial goals. It is also important to understand that over time your financial situation and your goals will also change. It is always prudent to regularly review and adjust your financial plan.

Goal based financial planning is simply a structured approach to goal based investing that can ensure a much higher chance of success in meeting your financial goals. It is always recommended to engage a financial planner or advisor, if you think you need help. The most important success factor in financial planning is your commitment towards the plan for your family’s financial security. Make an investment plan according to your goals. More importantly, start saving and investing.

View the infographic on goal based investing

An investor education initiative by HSBC Mutual Fund