ISSN: 1391 - 0531
Sunday February 3, 2008
Vol. 42 - No 36
Financial Times  

Financial planning more than selling an insurance product

By Haris Salpitikorala
Insurance consultant

What is Financial Planning? In a broader definition, it is a process of considering all aspects of financial needs and objectives of a person and utilizing of several integrated and coordinated planning strategies to achieve those needs and objectives.It starts from the point you secure an income source to the point that you finish fulfilling all your obligations. How well you know about your finances? Probably not as well as you think --that could get you into serious trouble one day. Not assume, not guess, but know you have the right finances. Yet time and again I've seen some who think their finances "seems OK," without really understanding the future needs. Often, it's a decision simply based on their perception and not a proper calculation.

In a society people are so involved in their day to day living and struggle to survive, it is a rat race run by most, for their daily needs. No one has enough time to sit down and think of their goals and needs but used to accept it, as it comes, day by day. The practice is very unhealthy for individuals, families, society and the country’s economy as well. Financial Planning is encouraged by most countries today, to educate people to prioritize their needs and goals, and also to create awareness among them, how they should allocate the income, build up the reserves and limit the liabilities within their means. The result will be fewer problems for them, their families and for the governance.

Financial needs and objectives for a family unit

Basic need; Food, shelter, clothing

Family need; Education, Housing, Medical

Social Need; Children’s marriage, special need such as buying a car and family holidays

Old age need; Retirement, Health, Wealth Transfer

How many of us have taken concrete steps to take care of all these needs? The questions one needs to ask himself; How much money, I need for my retirement? What is the cost of higher education for my children? How do I pay my medical bills when I have no income? What if something happens to me? Who will take care of my family obligation?

What is the GAP analysis? All the above needs are left to be managed with what they have in their reserves, if you are taken away from the picture with no prior plans worked out. Therefore the majority, one day, could expect a GAP between, what is built up as reserves to meet their needs and what is really required.

The tendency to believe that the GAP is due to our limited income is a common phenomena and this view is being psychologically supported by ever increasing demand for wage increase.

The argument; what is received as wages is not enough for expenses and therefore planning is impossible, is a very common saying among average wage earners. Therefore only a selected few tend to think whether the GAP can be reduced or be perfectly met with a proper planning process that lead to invest the limited income wisely on one hand and limit the liabilities on the other by prioritizing the needs to meet the financial obligation perfectly.

In fact in its simplest form, financial planning is done to make sure the so called GAP between what you have at any given point is not far away from what you really need. It is a continuous process of evaluating your needs and planning for your expenditure habits to build up enough reserves and investments by taking into account your monthly income.

The objectives of right financial planning are not just saving for kids’ education as everyone used to do but it is the road map to;

= Protect against financial risks by knowing the amount of risks one should take in his investments and also limiting his expenses and saving according to his ability.

= Protect against old age by knowing how much one needs for his retirement and drawing a plan to accumulate that amount when he needs to retire.

= Make a person ready for the cost of educating children; this is a sudden need that adults prepare to face at any cost. If not planned well, this can have lot of emotional pains on parents.

= Prepare a person for special needs such as buying a car, home, and holidays, etc. These are areas that every family needs to plan for and would like to have in their life.

= Save enough money for health care; Health care can take your life time saving unless you have a plan to pay for it, when the need arises.

= Wealth transfer to next of kin too needs to be addressed properly by a well planned scheme.

Properly drawn out financial planning scheme well in advance provides the answer for the above needs. Therefore the reasons why financial planning is needed are very clear; to protect against risk, to eliminate debts, to handle major expenses like children’s education, buy a car and a home, proper retirement and pass on the wealth to the next generation.

In the process, the financial planning also highlights how one should limit their liabilities by prioritizing their needs or protect against them by adequate insurance coverage. The main constraint of income limitation to meet the ever increasing needs of people is a universal feature which is not only limited to Sri Lanka. The needs of people are increasing at a much faster rate than their income. Then people tend to fill the GAP using borrowed money. The human behaviour is influenced by environmental factors and that leads people to spend more with even more income at their disposal without prioritizing their needs or without having proper protection against those debts. Only few think of their future obligations. If finances are not planned properly, the borrowings will over stretch in order to meet their increasing needs, though it may not necessarily be at the top of their agenda. If this was done without a plan, obviously it would be done at the expense of other priorities and without a proper coverage in place for the borrowings that will create a huge liability for the future. The result is an indebted society, poverty, less education for kids, bad debts and ultimately unhappy ending in your life without having enough money for retirement.

The benefits of financial planning can be many but to mention a few;

= It sets a proper and clear direction for your lifestyle and your savings and investments risks.

= Set priorities, if not you may spend hard earned money on the wrong needs or less important ones.

= Emotional well being- A person who has a PROPER PLAN is free of hassles and problems. His mind is free to concentrate on his spiritual well being and family needs.

= Instill discipline- This is a major reason why we need a plan. Financial discipline is important to make sure what you earn is spent right.

So, it is achieving the right balance with the limited income, between his investments, saving and expenses keeping in mind what he has and what he needs in future.

Who needs financial planning?

High income group, middle income group and low income group; it is for everybody. It is a wrong perception that people are unable to plan if they fall into the average income bracket. When an income is limited, it gives more reason to have proper and strict planning process to make sure the priorities are right.

Therefore, the financial planning is for everyone not for the elite few or limited to only those who are rich. The income limitation should not be a hindrance to draw out an ideal plan that suits each individual and his family need. The plan can vary with individuals and their capacity. A plan for everyone irrespective of their income is not only important but also essential.

Three major components in financial planning
1. Disposable Income
2. The future needs to be met
3. Assets, Reserves and Liabilities (Net Assets)

There are two main areas.

Do we limit our needs to suit our income?

Do we allocate our income wisely and limit our expenses carefully in order to build up enough assets and reserves for future needs?

Difference between needs and wants

Our actual needs are pretty limited: food, shelter, clothing, companionship. Just about everything else is a "want," and our wants are essentially endless. Because our resources are limited, we have to make choices about which wants to fulfill.

Also, the way we fulfill our needs involves a lot of choice. Shelter, for example, can be a bed at a mission for the homeless or a $125 million mansion. Our food choices offer a similar range, from rice, dhal and tap water consumed at home to steak and apple pie at an exclusive restaurant. I've discovered many people who believe they have to spend money in certain ways or in certain amounts, when in reality their spending is a choice -- or is at least based on choices they made earlier. If you're facing a monster housing loan or huge car installment, for example, it's because you chose to buy that home or the car and selected that particular lifestyle.

Taking responsibility for our choices can be scary, but it should also be empowering. After all, if you have choices, you're not just a victim of circumstances.

The objective of financial planning is to achieve the most desired results. The financial planner’s task is to balance the allocation of disposable income to meet the client’s future needs. Spend less and save more, it sounds like common sense but this common sense is not so common when we look around, as it is vividly demonstrated that at a given point many are unable to meet their basic needs such as sending children for higher education, decent retirement income and proper health care, leaving aside to meet those needs if there is premature death of the breadwinner. Who are the present financial planners and who should monitor them are topics that need to be discussed separately. In most countries insurance agents are trained to become financial planners as they are supposed to sell needs but not products. Do our insurance agents get enough training in this direction?

The right, sincere and unselfish advice is of paramount importance. That is why proper regulations by the right authorities are needed to guide the financial planners in the right direction.

 

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