PERSONAL FINANCIAL PLANNING
• Planning of finances is essential for each and
everyone, be it a school-going kid or a retired
citizen.
• The more early you begin to manage your
money the better it is.
• Let’s suppose you choose not to plan and keep
spending as and when you like and one day you
wish to purchase a house but then you cannot
as you hardly have any savings left.
• This is what happens when you don’t plan and
end up overspending.
• We tend to overspend when we do not
understand what we really need.
• We keep on spending to fulfill all our
requirements and we lose count of how much
we spent.
• One should understand the difference between your needs and
wants.
• Basic necessities like food, shelter and other essential expenses are
our needs which we will have to incur.
• But things like play stations, videogames and movies are always an
option and can be done without.
• If even we do want to splurge on our wants we can set aside some of
our savings over a time period and can buy important needs like
vehicles, house, higher education etc when we have accumulated
savings.
• This is what planning is all about, to plan, save and help us to achieve
our financial goals.
FINANCIAL GOALS
• Money drives many decisions that we make day
to day.
• Setting goals can help us take control and feel
more confident about those decisions.
• Financial goals are the most important objectives
you set for how you will save and spend money.
• A financial goal is a target to aim for when
managing your money. It can involve
saving, spending, earning, or even
investing.
• When you have a clear picture of what you are
aiming for, working towards your target is easy.
That means that your goals should be
measurable, specific, and time-oriented.
• Think about what is important to you as you begin to set goals. It is
completely normal to have several goals;
• Some of the financial goals are:
• Paying off debt.
• Saving for retirement.
• Building an emergency fund.
• Buying a home.
• Saving for a vacation.
• Starting a business.
• Feeling financially secure.
• Investment planning and method.
• Management of Cash and saving.
• Appropriate use of cash and credit.
There are several types of financial goals
• 1) Short-term goals 2) Mid-term goals 3) Long-term
goals
1) Short-term financial goals - These are smaller
financial targets that can be reached within a year.
This includes things like a new television, computer,
or family vacation.
2) Mid-term financial goals - Typically, mid-term goals
take about five years to achieve. A little more
expensive than an everyday goal, they are still
achievable with discipline and hard work. Paying off
a credit card balance, a loan, or saving for a down
payment on a car are all mid-term goals.
3) Long-term financial goals - This type of goal usually
takes much more than 5 years to achieve. Some
examples of long-term goals are saving for a college
education, retirement, or a new home.
PERSONAL FINANCIAL PLANNING
• Financial Planning means to plan your finances.
• Financial planning is the process of meeting life goals through the proper
management of finances.
• It refers to the process of managing an individual's financial resources to
achieve financial goals and objectives.
• PFP involves evaluating a person's current financial situation, identifying their
financial goals and objectives, and developing a comprehensive plan to
achieve those goals.
• Personal Financial Planning is a systematic process that involves creating a
strategy tailored to an individual's or household's financial goals, resources,
and risk tolerance.
• This process includes assessing current financial status, setting
realistic financial goals, and developing a comprehensive plan to
achieve these goals.
• For this, it is important that one understands his financial needs or
objectives and then plan how he can achieve these objectives or goals
by making investments or by borrowing funds.
Objectives of Financial
Planning
1.Establishing Financial Goals
• These goals may include saving for retirement, paying off debts, buying
a home, or funding a child’s education.
• helps individuals or organizations create a roadmap for achieving their
desired financial outcomes
2.Managing Income and Expenses
• This involves creating a budget that outlines income and expenses and
allows individuals or organizations to make informed financial decisions.
• This helps to reduce debt, increase savings, and improve overall
financial health.
3.Minimizing Taxes
Understanding tax laws and utilizing tax-efficient strategies, individuals or
organizations can minimize their tax liabilities and retain more of their
income.
4. Managing Risks
• Managing risks, such as unexpected events that could significantly
impact financial well-being.
• Include creating an emergency fund, obtaining insurance coverage, or
developing an estate plan.
5 .Investing Wisely
• Correct Investment is required to achieve long-term financial goals.
• This involves understanding investment options, managing risks, and
creating a diversified investment portfolio.
6. Regular Monitoring
• Last but certainly not least, financial planning helps you regularly
monitor your progress towards your financial goals.
• You can adjust your strategy whenever your life circumstances, financial
markets, or personal financial goals change
PROCESS OF PERSONAL
FINANCIAL PLANNING
1. Determine the current financial situation
2. Develop financial goals
3. Identify alternative courses of action
4. Evaluate alternatives
5. Create and implement financial action plan
6. Review and revise the financial plan
1. Determine the current financial situation
• The first step in personal finance planning is to thoroughly understand the
present financial position.
• This includes listing all sources of income, identifying all regular and irregular
expenses, evaluating the amount of savings, and reviewing existing debts and
liabilities.
• Assets such as bank balances, investments, properties and other valuables are
also assessed.
• This step creates a baseline from which future financial decisions will be made.
2. Develop Financial Goals
• Once the evaluation of current financial position is completed, the second step
is the goal setting process.
• The financial goals can be short term, medium term and long term.
• The financial goals can be buying a new house, buying a new computer,
retirement savings, creation of emergency fund etc.
• Goals should be SMART- Specific, Measurable, Attainable, Realistic, and Time-
based.
3. Identify Alternative Courses of Action
• For each financial goal, multiple strategies or options may be available.
• This step involves listing all possible methods to achieve those goals.
• For instance, to accumulate wealth, alternatives may include regular saving ,
investing in mutual funds, starting a side business or reducing unnecessary
expenses.
• Identifying multiple courses of action ensures flexibility and allows
comparison of options to select most suitable one.
4. Evaluate Alternatives
• Each alternative identified in the previous step must be evaluated critically
based on several financial criteria.
• These include level of risk, expected return, tax impact etc.
• This step helps in understanding the consequences of each decision and
selecting the most beneficial and realistic plan of action.
• For example. Mutual funds may offer high returns, they also carry high risk.
Whereas fixed deposits are safer but may offer low returns.
5. Create and Implement Financial Plan
• After evaluating alternatives, a comprehensive financial plan is prepared and
executed.
• The plan outlines the specific steps to be taken including allocation of resources,
investment choices, saving targets and timeframes..
• Implementation of the plan involves executing these steps in an organized and timely
manner to progress towards financial goals.
6. Review and Revise the financial Plan
• Financial planning is an ongoing process.
• Regular reviews are necessary to track progress, identify deviations,
and make necessary adjustments.
• Changes in personal circumstances, economic conditions or financial
goals may require modifications to the original plan.
• Periodic reviews ensure that the financial plan remain practical, goal
oriented and responsive to new challenges or opportunities.
PRINCIPLES OF PERSONAL
FINANCE PLANNING
1. Goal oriented approach
2. Realistic planning
3. Consistency and discipline
4. Risk management
5. Flexibility and review
6. Diversification
7. Tax efficiency
8. Long term perspective
9. Simplicity and clarity
10. Ethics and responsibility
1.Goal-Oriented Approach
• Financial planning should always begin with clear, measurable, and
achievable goals.
• Goals guide the planning process and help in prioritizing financial
decisions.
• Example: Saving ₹5 lakhs for a child's education in 5 years is a specific
and measurable goal that influences saving and investment choices.
2. Realistic Planning
• A financial plan must be practical, based on actual income, expenses,
and obligations.
• Unrealistic expectations can lead to failure in achieving financial
objectives.
Example: If the monthly income is ₹30,000, planning to save ₹20,000
every month is not feasible unless living expenses are exceptionally
low.
3. Consistency and Discipline
• Regular saving, timely payment of bills and EMIs, and maintaining
budgeting habits require discipline.
• Consistency builds long-term financial strength.
• Example: Saving even ₹1,000 per month over several years can create a
significant emergency fund, when done consistently.
4. Risk Management
• Personal finance planning should include steps to protect against
uncertainties.
• This includes taking adequate insurance and building emergency funds.
• Example: Having a health insurance policy and a three-month emergency
fund can prevent financial difficulties in case of sudden illness or job loss.
5. Flexibility and Review
• A good financial plan must be flexible to adjust to life changes such as
marriage, childbirth, job change, or economic shifts.
• Periodic review helps in realigning goals.
• Example: A person who plans to buy a house in 10 years may revise the
goal to 5 years after receiving a promotion or inheritance.
6. Diversification
• Investments should be spread across various assets like savings
accounts, fixed deposits, mutual funds, gold, or real estate to reduce
risk.
• Example: Instead of putting all money into the stock market, investing in
mutual funds, and real estate helps to balance risks and returns.
7. Tax Efficiency
• Planning should aim at maximizing returns while minimizing tax liabilities.
• Using tax-saving instruments under applicable laws helps in wealth
building.
• Example: Investing in Public Provident Fund (PPFs) can reduce taxable
income under Section 80C.
8. Long-Term Perspective
• Building wealth requires patience and a long-term view.
• Short-term gains should not distract from long-term security and financial
independence.
• Example: Investing in a pension plan at an early age ensures a steady
income after retirement, even though the benefit is far in the future.
9. Simplicity and Clarity
• Plans should be easy to understand and manage.
• Overcomplicating with too many schemes or financial products can create
confusion.
• Example: A clear monthly budget showing income, expenses, and savings
targets is easier to follow than using multiple apps and spreadsheets without
understanding.
10. Ethics and Responsibility
• Honesty in declaring income, paying taxes, and repaying debts on time
builds financial integrity.
• Responsible financial behavior benefits both the individual and the
economy.
• Example: Timely repayment of a personal loan helps in building a good
credit score, which supports future borrowing needs
FACTORS AFFECTING PERSONAL
FINANCIAL PLANNING
1. Income Level
2.Age and Life Stage
3. Family Responsibilities
4. Financial Goals
5. Inflation Rate
6. Risk Tolerance
7.Tax Policies
8. Employment and Job Stability
9. Health Condition
10. Economic Conditions
1. Income Level
The amount of money earned determines the capacity to save, invest, and
spend.
Example: A person earning ₹50,000 per month can plan differently from
someone earning ₹15,000, as the surplus for investments and savings varies.
2.Age and Life Stage
Financial needs and goals change with age and different life stages.
Example: A college student may focus on education loans and part-time
income, while a retiree might focus on pension plans and medical expenses.
3. Family Responsibilities
The number of dependents and their needs impact financial planning.
Example: A person supporting aged parents and school-going children must
allocate funds for healthcare and education along with regular expenses.
4. Financial Goals
Short-term and long-term goals guide the direction of financial planning.
Example: Buying a car within two years is a short-term goal, while saving for a
child's higher education is a long-term goal.
5. Inflation Rate
Rising prices reduce the purchasing power of money, affecting savings and
future planning.
Example: An item costing ₹100 today may cost ₹200 after five years, requiring
higher savings to meet future needs.
6.RiskTolerance
The ability and willingness to take financial risks influence investment choices.
Example: A person comfortable with risk may invest in mutual funds, while
another with low risk tolerance may prefer fixed deposits.
7.Tax Policies
Changes in tax laws affect disposable income and investment returns.
Example: An increase in income tax rate reduces net income, requiring
adjustments in savings or expenditure.
8. Employment and Job Stability
Stable employment ensures a steady flow of income, essential for consistent
financial planning.
Example: A government employee may enjoy stable income, while a freelancer
may have irregular earnings, leading to different saving strategies.
9. Health Condition
Health issues can lead to unexpected medical expenses, impacting overall
financial plans.
Example: A person with chronic illness may allocate more funds for health
insurance and regular medical care.
10. Economic Conditions
The overall economic environment influences financial decisions.
Example: During a recession, people may reduce spending and focus more on
saving due to uncertainty.
SAVINGS
Meaning
• Savings refer to the portion of income that is set aside after meeting all
necessary expenses.
• It is the surplus left from income after deducting expenditure on basic needs
such as food, shelter, clothing, transportation, and other living costs.
• Savings can be kept in a bank account, invested in financial instruments, or
stored in other secure forms for future use.
• In the context of personal finance planning, savings form the foundation upon
which financial goals and future plans are built.
• It ensures that resources are available when needed, especially in times of
emergencies or for planned future needs.
Importance of Savings in Personal Finance
Planning
1. Savings provide financial security during emergencies such as illness or job loss.
2. Financial goals like education, home purchase, or travel can be achieved through
regular savings.
3. A strong base for future investments is built by consistent saving habits.
4. The need to depend on loans or credit in difficult times is reduced by having
savings.
5. Peace of mind and reduced financial anxiety result from maintaining a savings
habit.
6. Retirement years become more secure when savings are planned in advance.
7. Unexpected expenses can be handled more easily with available saved funds.
8. Disciplined saving encourages better budgeting and careful spending.
9. Savings help in protecting purchasing power by enabling future financial planning.
10. Confidence in managing personal finances is strengthened through regular savings.
BENEFITS OF SAVINGS
• Provides Financial Security
• Reduces Financial Stress
• Helps to Achieve Financial Goals
• Avoids Unnecessary Debt
• Provides Financial Independence
• Enables Investment Opportunities
• Prepares for Retirement
• Protects Against Inflation
• Provides Financial Security
Savings act as a cushion during unexpected events like medical emergencies or job
loss.
Example: A person with ₹1,00,000 in emergency savings can manage hospital bills
without borrowing.
• Reduces Financial Stress
Savings reduce anxiety about uncertain future expenses and bring peace of mind.
Example: Knowing that ₹50,000 is set aside for emergencies helps avoid panic during
sudden car repairs.
• Helps to Achieve Financial Goals
Savings allow fulfillment of short-term and long-term goals like buying a house, car, or
funding education.
Example: Saving ₹5,000 every month for 2 years helps in paying the down payment
for a two-wheeler.
• Avoids Unnecessary Debt
Savings eliminate the need to depend on loans or credit cards for expenses.
Example: Paying for home renovation from savings avoids taking a personal loan
with high interest.
• Provides Financial Independence
Adequate savings give the confidence to take decisions without depending on others
financially.
Example: A person with enough savings can start a small business without seeking
help from relatives.
• Enables Investment Opportunities
Savings create funds that can be invested to earn returns and grow wealth.
Example: Saving ₹2,000 per month allows investment in mutual funds or fixed
deposits for future growth.
• Prepares for Retirement
Savings during working years ensure a stable source of income after retirement.
Example: Regularly saving in a pension plan builds a corpus for post-retirement
expenses.
• Protects Against Inflation
Savings, when invested properly, help maintain purchasing power as prices rise.
Example: Investing savings in inflation-beating instruments like equity, mutual funds
ensures future affordability.
Investments
• Investment in personal finance planning refers to the allocation of money or
resources into assets or financial instruments with the expectation of earning
returns or creating wealth over time.
• It is a planned step after saving, where money is not kept idle, but allocated to
options that can generate income, appreciate in value, or both.
Examples:
• Mr. Krishnakumar purchased a piece of land with the purpose of selling it at a
higher price.
• Sundar Limited purchased a machinery for its factory.
Differences between savings and investment.
Criteria : Savings : Investments
1. Purpose: To keep money safe and easily : To grow money to achieve financial
accessible. goals.
2. Risk : Low : High
3. Return: Lower returns, usually in the form of : Higher returns through capital gains,
interest. dividend etc.
4. Liquidity: Highly liquid, funds can be accessed : Varies, some investments can be less
quickly. liquid and difficult to access.
5.Time
period : Short term : Long term
6. Security : Highly secured : Varies according to the nature of
investment.
7.Growth potential : Limited : High
8. Accessibility : Easily accessible in times of : May require time to liquidate or
need access.
9. Income : Regular but low income : Variable income, can be high.
10. Examples :Savings account, recurring : Stocks, mutual funds, real estate,
deposit, Fixed deposits etc. bonds etc.
Case study
• Arun, a 30-year-old software engineer in Ernakulam, earns a monthly salary of
80,000. Despite his good salary, Arun struggles with managing his finances. He
has no financial plan and often spends impulsively on gadgets, dining out, and
entertainment. As a result, he finds himself short on cash at the end of every
month, frequently borrowing from friends and family. One month, an
unexpected medical emergency left him unable to cover the expenses, leading
to significant financial instability.
Monthly Cashflow Details:
Income:
Salary: Rs.80,000
Expenses:
Rent: Rs.25000
Groceries and Utilities: Rs.10,000
Transportation: Rs.5,000
Dining Out and Entertainment: Rs.15,000
Gadgets and impulse purchase: Rs. 10,000
Miscellaneous: Rs. 5,000
Total expenses: Rs.70,000
Surplus: Rs.10,000
Issues Identified:
i. Lack of Savings: Arun does not set aside any savings for emergencies or future
goals.
ii. Impulsive Spending: A significant portion of his income is spent on non-
essential items like gadgets and dining out.
iii. No Financial Plan: Arun does not have a budget or financial goals, leading to
financial mismanagement.
Consequences
i. Frequent Borrowing: Arun often borrows money from friends and family to
cover his expenses, leading to strained relationships.
ii. Financial Instability: An unexpected medical emergency left Arun unable to
cover the expenses, resulting in significant financial stress and instability.
iii. Inability to Build Wealth: Without savings or investments, Arun is unable to
build wealth or achieve financial security
• Suggestions:
• Arun could have created a budget to track his income and expenses, and set
aside savings for emergencies. Arun can allocate his monthly income as
follows to ensure better financial management:
Income
Salary: 80,000
Proposed Expenses:
Rent: 25,000
Groceries and Utilities: 10,000
Transportation: 5,000
Dining Out and Entertainment: 5,000 (reduce by 10,000)
Gadgets and Impulse Purchases: 2,000 (reduce by 8,000)
Miscellaneous: 3,000 (reduce by 2,000)
Savings: 30,000 (new allocation)
Total Expenses: 50,000
Surplus: 30,000
b) Consistent income management ensures that there are always funds
available to meet financial obligations and handle unexpected expenses.
c) Arun can start by creating a budget, setting financial goals, create and
establishing an emergency fund.
A. Emergency Fund:
Arun should aim to build an emergency fund that covers at least 3-6 months of
living expenses.
i. Monthly Living Expenses: 50,000
ii. Emergency Fund Goal (6 months): 50,000 x 6 = 300,000
• With a monthly savings of 30,000, Arun can build his emergency fund in:
• Time Required to Build Emergency Fund: 300,000 30,000 = 10 months
B. Financial Goals:
Arun should identify his short-term and long-term financial goals.
Short-Term Goals
i. Build an emergency fund within 10 months.
ii. Save fora vacation (t 50,000) within 1 year.
Long-Term Goals
i. Save for a down payment on a house (Rs. 100,000) within 5 years.
ii. Invest in mutual funds to build a retirement corpus.
C. Creating an Investment Plan
Arun should start investing a portion of his savings to grow his wealth over
time.
i. Monthly Savings: 30,000
ii. Proposed Allocation:
Emergency Fund: 10,000 (until goal is met)
Vacation Fund: 5,000 (until goal is met)
House Down Payment Fund: 10,000
Retirement Fund: 5,000
D. Monitoring and Adjusting
Arun should review his financial plan regularly and make adjustments as
needed to stay on track with his goals.
Income
• It is the money earned from various sources like salary, wages, earnings
from farming or business, interest on investments etc.
• It is an inflow of money and it represents the total funds available to
cover expenses and savings.
Types of income:
1. Active income
2. Passive income
1. Active income:
• It refers to earnings that require direct involvement and continuous effort
• This type of income is typically earned through employment and self
employment, where an individual is compensated for his time, skills and
labour.
• Examples:
salary, wages, income from agricultural activities, profits from
business etc.
2. Passive income:
• Earnings that do not require active participation or continuous effort.
• This type of income is typically generated from investments or assets
providing a steady stream of income with minimal active involvement.
• Examples:
Rental income, interest income, dividends, capital gains, royalty
income etc.
Question 1.
Ram works as a marketing executive and earns Rs. 50,000 per month. He also
has a small side business that generates Rs. 20,000 monthly. Additionally, Ram
has invested Rs. 2,00,000 in a fixed deposit earning 5% annual interest and
owns a rental property generating Rs. 15,000 per month. Calculate Ram’s
monthly active and passive income.
Solution:
Active income:
Salary- Rs. 50,000
Income from business Rs. 20,000
Total 70,000
• Passive income:
Rental income - Rs. 15,000.00
interest income( 2,00,000x 5%)12 - Rs. 833.33
Total 15833.33
Question 2.
Manu has Rs. 3,00,000 in a savings account yielding 4%interest annually and Rs.
5,00,000 in mutual funds with an expected return of 8% annually. He earns a
salary of Rs. 40,000 per month and Rs. 10,000 monthly from part time job.
Calculate Manu’s annual and monthly active and passive income.
Solution.
• Active income:
salary Rs.40,000
Part- time job Rs. 10,000
Total monthly active income 50,000
Annual active income= 50,000x12= Rs. 6,00,000
• Passive income:
Interest on savings ( 3,00,000x 4%) _ Rs.12,000
Mutual fund return ( 5,00,000x 8%) – Rs. 40,000
Annual passive income 52,000
Monthly passive income= 52,000/12= Rs. 4333.33
