Want to save for your child's education? Here are some tips
In an interview to CNBC-TV18 personal finance expert, Hemant Rustagi of Wiseinvest Advisors shared insights on how one should save for children and their education.
Below is the verbatim transcript of an interview aired on CNBC-TV18.
Q: How to save for children education? How to set a target in terms of amount and at what point in time should one start saving?
A: Saving for children or planning for children education is a part of the financial planning process. Let me just focus on the financial planning process; the right way to start the process of financial planning is by setting goals, assign a time horizon and establish a target for each one of them. This is very important because it allows an investor to decide the kind of asset allocation, which should be there. For example, if a goal has to be achieved in the short-term then focus has to be on debt instrument and if it for long-term then the focus has to be on equity.
Many investors make the mistake of having one common goal of wealth creation and creating one portfolio, which is not the right way because for an investor it makes practically impossible to keep track of how the asset allocation has to be done, how much has to be put aside for each goal and how much has to be spent on a particular goal. So, I think the important thing is that there has to be a separate portfolio for each of the goals, which are a part of an investor’s financial plan.
Planning for children education is very-very important goal for any parent and the right way to do it is by investing early because it has many benefits when one starts investing early but unfortunately not many parents follow this. Either they delay the process of planning for the children education or do not invest sufficient money. Like I said earlier there are many advantages of starting the process early. For example, if there is a long enough time horizon, one can look at asset class like equity even though it is aggressive but the fact remains that it has a potential to give the best return among all the asset classes. The second major advantage of investing early is that one can benefit from power of compounding, which means that even with a small sum of money the parents can create a huge corpus.
The important thing is that they must begin the investment process as early as possible. In reality it depends on at what stage they start and based on that a certain model portfolios can be worked. If parents start investing for child’s education from birth to age of five, the time horizon is around 13-18 years. It gives enough time to the parents to invest in an aggressive asset class like equity. Equity has a potential to provide real rate of return and that goes a long way in creating the kind of corpus they will need for that. Of course the key is to invest in a disciplined manner and also another important point is that once the child reaches the age of 16, they should start putting this money into the debt so that they can protect all the gains that they have made. The other one is that if they start the process between the age group of 6 to 12 then the time horizon is 6 to 12 years. There it should be a balanced kind of portfolio maybe around 50-60 percent in equity and 40 percent in debt and finally if the age group is around 13-18, the time horizon is around one year to five years. There the focus has to be more on capital protection and maybe they can look at market-linked debt products of mutual funds.
There are many options available to the parent to plan for their children’s education. There are children plan of insurance companies, there are dedicated child fund from mutual funds but I believe that the best way is to take a combination of open-ended fund because there are variety of open-ended funds available. They have flexibility. They have the potential to give better returns than these dedicated child plans and also they are more tax efficient. So if investors or parents can manage their portfolio actively, I believe the combination of mutual fund is the right way to proceed for this important goal of their life but the sooner they start, the better it is.
Caller Q: I want to go for Masters for which I wish to take education loan of around Rs 8.90 lakhs. All banks give 1 percent interest concession on full tenure of education loan if interest is serviced during study period, which actually is the repayment holiday. I am not sure if I should use some part of my savings to get that interest concession or I should use all of savings amount to minimize the loan amount and rather pay the loan back with original interest rate?
A: Yes, it is absolutely true that 1 percent concession on the interest rate is given provided the interest is paid during the moratorium period on a monthly basis and regularly. It is certainly a good idea to actually opt for this but I think there are a few factors that you need to really consider here. One is because the loan is going to be around Rs 8.9 lakh, which means that you will have to pay a margin money of around 5 percent, so you need to make sure that you have that money because you said overall you have around Rs 1.6 lakh and then also considering that the interest rate currently would be around 12 percent or thereabout you need to make sure that you have enough cash flow to pay the interest during this entire period when you are studying and you need to also keep aside some money as an emergency reserve. So, if you believe that you can arrange for all this certainly you should then go for this concession rate. If not and if you are confident about getting a decent job after you complete your Masters and if you feel that you can service that debt subsequently then maybe you can keep this money aside as an emergency. So, it all depends on whether you can organize that much cash flow to take advantage of that or not.