When is a good time to start saving for your child?
The day she is born!
Here are four simple principles to follow that will benefit you in the long run.
1. Invest to beat inflation
Let's say your baby has just been born.
Let's assume she will get married at the age of 25. If it costs you Rs 10 lakh (Rs 1 million) to foot the wedding bill now, it will cost you a little more than Rs 42 lakh (Rs 4.2 million), 25 years down the road.
Now let's also assume that before she gets married, she plans to do an MBA. If it costs Rs 3,00,000 now, it should cost little more than Rs 10 lakh, 21 years later.
Why such a steep hike? The culprit is inflation. Here we have assumed it to be 6% p.a.
Where to invest?
Shares and diversified equity funds make a good investment. Over time, investments in equity give a return higher than the inflation rate. From all other investments, they provide the highest returns.
And, since you are investing for the long-term, you have the potential to ride the ups and downs of the stock market.
2. Invest to avail of compounding
Say your baby is just born and you put aside Rs 10,000 in her name to touch it only when she turns 15.
Let's also assume that this amount earns an interest of 7% p.a., compounded annually.
When she is 15, she will get Rs 27,590.
Now, let's look another scenario. You wait till she turns five and then invest Rs 10,000 at the same rate of interest.
When she is 15, she will only get Rs 19,671.
If you wait for her to turn 10 and then invest, she will only get Rs 14,025.
Hence, starting now is crucial, especially if you are starting with small amounts, since time will work in your favour.
Where to invest?
Basically you should opt for investments that do not offer a regular income. Instead, the interest rate should be added to the principle amount year after year.
Public Provident Fund, fixed deposits and money multiplier bonds are some options.
Endowment Plans of life insurance companies also work on this principle if you invest the amount in one go. Your child will then get the money at a particular age.
3. Invest frequently
The trick is to invest regularly, without fail and to make sure you don't draw out of the investment. Simply allow it to accumulate.
Let's say you invest Rs 10,000 in your child's name the moment she is born.
When she turns 15, she will get Rs 27,590 at 7% per annum compounded annually.
Now, if you just add Rs 1,000 to this investment every year, she will have Rs 54,478.37
Rs 1,000 per annum won't pinch your wallet, but it will make a big difference down the road.
Where to invest?
Try a recurring deposit with a bank or a post office for five years. When it matures, renew it again.
This means that you will have to put in a fixed amount every month.
A mutual fund Systematic Investment Plan works in the same way. You commit a fixed amount every month and depending on the current Net Asset Value, you will get units allocated.
Opening a Public Provident Fund account in your child's name will also help since you are expected to put in a fixed amount every annum.
All these investment options get you to invest regularly.
If you have invested in mutual funds, opt for the growth option, not dividend. If you do get dividends, either from your shares or mutual funds, deposit them in your child's account.
You can even opt for an Endowment Plan where you pay an annual premium (not a lumpsum as mentioned above). Your child will get the assured amount at a particular age.
4. Invest with a long-term perspective
If you have a new born child, the expenses will only mount.
Don't start by committing a huge amount of your savings towards your child. Instead, slowly increase the amount over time as you get comfortable with your savings and inculcate regular investing habits.
Let's say you invest Rs 1,000 every month towards your child. Make a decision to increase it by Rs 500 every six months. So, after six months, you can start investing Rs 1,500 every month. After a year, increase that amount to Rs 2,000.
This is just a broad indicator; you can figure out the exact amount depending on how much you earn and how much you spend.
The underlying principle is to increase your savings as your salary increases
Mentally gear yourself not to touch this money. Don't look at it to finance your new car or even to make the down payment of your home. Try and budget for those separately.
That is why is makes sense to start small because you can then live realistically.
Where to invest?
If you have invested in shares or mutual funds, don't sell them a few years down the road if you need the money much later.
If you are making a tidy profit, then you can sell it around the time when your child needs the money. For instance, if you need the money when your child is 21, don't wait till the end. If your child is say 19, and you are making a substantial profit by selling, then go ahead and put the entire amount in a fixed deposit for maturity when you need it.
PPF is automatically blocked for 15 years.
When your other investments mature, reinvest them. Don't club it with your other savings and your retirement funds.
Illustration: Uttam Ghosh