Will My Rs. 2.50 Lacs Investment Get Me Rs. 50 Lacs After 30 Years?

I am having a term policy whose annual premium is Rs.25000; I understand that I will not get back the premium or maturity benefit. Therefore, I am planning to invest Rs.2,50,000 lumpsum or say Rs.5000 a day over a period of 50 days under STP from my liquid fund. I will not disturb the amount for 30 years and I will take the dividend assuming @ 10% on Rs.250000 to pay off the premium commitment. I also understand, in case of no dividend in any particular year, I need to honour the premium commitment out of pocket. Will this Rs.2.50 lacs investment will get me Rs.50 lacs after 30 years; in case of my survival, the maturity amount of Rs.2.50 lacs is Rs.50 lacs (presumed) or in case of death , within this 30 years, the nominee will get this 50 lacs from term plan and also get Rs.50 lacs from the mutual fund investment after 30 years. Is my idea is correct and investment of Rs.2.50lacs in equity fund will be suffice or should I need to invest more.? please guide and advise.

Ans: Never plan periodic payouts thru dividend mutual funds because their is no assurance about it.

Consider 25K per yr as a protection money(term plan premium) and invest the balance into equity mutual funds.

Had you opted for traditional endowment policy then your annual premium outgo would have been much higher with less surplus available for investing in mutual funds.

Alternatively you can invest lumpsum of 50 L in an conservative hybrid fund, let it grow for 3 years and then plan SWP to meet your premium payment needs.

*Investments in mutual funds are subjected to market risks. Read all scheme related documents carefully before investing

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Ans: You’ve made a wise decision by choosing a term plan for life insurance. Term plans provide high coverage at low premiums, ensuring financial protection for your family. The main drawback of a term plan is the absence of maturity benefits or bonuses. However, the primary goal is protection, and you’ve rightly focused on ensuring that commitment. Your Rs. 25,000 annual premium is manageable, but setting aside a larger lump sum to generate returns for the future is an interesting strategy.

Let’s analyze your approach of investing Rs. 3 lakhs in equity mutual funds to fund your premium commitment.

Assessing the Investment Strategy
You are considering investing Rs. 3 lakhs in an equity mutual fund. Equity funds have historically provided long-term growth, which is aligned with your 30-year investment horizon. The plan to leave this investment undisturbed is ideal, as equity investments require time to overcome market volatility and generate meaningful returns.

However, the dividend option in mutual funds, especially under an equity scheme, may not be the most reliable source for annual income to cover your premium.

Here’s why:

Dividend payouts are uncertain: As you mentioned, dividends are not guaranteed. Mutual funds do not promise a fixed percentage of dividends annually. Even if a fund has paid dividends in the past, future payouts can vary significantly based on market performance and fund decisions.

Dividend plans vs. Growth plans: In dividend plans, the mutual fund distributes a portion of the profits as dividends, which means less capital is left in the fund to grow. In a growth plan, all profits are reinvested, potentially allowing for more significant long-term compounding.

Taxation of dividends: Dividends are now taxable in your hands as per your tax slab. This could reduce your net return from dividends, making it less efficient than initially anticipated.

While dividends could supplement your premium payments in some years, it’s important to have a backup plan for years when dividends are lower than expected. You’ve acknowledged this uncertainty and your intention to honor the premium payments, which is a sound approach.

Evaluating the 30-Year Investment Horizon
Your 30-year time horizon is excellent for equity investments. Over such a long period, equity mutual funds have the potential to generate substantial returns through the power of compounding. While market fluctuations will happen, they generally even out over extended periods, favoring patient investors.

However, you’ve set a goal of achieving Rs. 50 lakhs after 30 years, which is possible but not guaranteed. Let’s review the factors that could affect this goal:

Market conditions: Over 30 years, markets go through cycles of ups and downs. Historically, equity markets have grown, but predicting exact returns is difficult. You may need to review your investment periodically to ensure it’s on track to meet your goals.

Fund performance: Actively managed mutual funds can outperform or underperform based on the fund manager’s decisions. It’s essential to pick a consistent performer and periodically evaluate its performance against benchmarks.

Inflation: Don’t forget inflation. Over 30 years, the purchasing power of money can decrease significantly. The Rs. 50 lakhs you’re targeting may not have the same value in the future. Therefore, aiming for a higher corpus may be wise to maintain the same purchasing power.

Why Equity Mutual Funds are a Good Choice
You’ve opted for equity mutual funds, which is a good decision for long-term wealth creation. Here are some key benefits:

High potential returns: Equity funds, especially diversified ones, have historically provided higher returns than debt or fixed-income options. This makes them suitable for long-term goals like yours.

Professional management: By investing in an actively managed mutual fund, you’re relying on a professional fund manager to make investment decisions on your behalf. This can be beneficial, as they have the expertise and resources to make informed choices.

Diversification: Equity mutual funds invest in a variety of stocks across sectors, reducing the risk of poor performance from any one sector or company affecting your overall investment.

However, it’s important to avoid relying solely on historical dividends as a source of income. Dividends are not guaranteed, and equity funds are primarily designed for growth rather than regular income.

Alternative Strategies to Consider
Given that dividends from mutual funds can be unpredictable, it’s wise to consider a growth plan instead of a dividend plan. Here’s why:

Power of compounding: In a growth plan, the returns are reinvested, allowing your investment to grow more effectively over time. The compounding effect is amplified over 30 years, giving you a better chance of reaching your Rs. 50 lakh goal.

Tax efficiency: Growth plans are also more tax-efficient than dividend plans. You won’t have to worry about paying tax on dividends each year. Instead, you’ll only pay capital gains tax when you redeem your investment, and long-term capital gains on equity are taxed at a lower rate.

Greater flexibility: With a growth plan, you can choose when to redeem your investment, giving you more control over when you pay taxes and use the money.

Consider setting aside the Rs. 3 lakhs in a growth plan and reviewing it every few years. This will allow you to adjust your investment strategy if necessary, ensuring that you stay on track for your Rs. 50 lakh goal.

Backup Plan for Premium Commitments
Since dividends are uncertain, it’s wise to have a backup plan for covering your Rs. 25,000 annual premium. Here are a few options:

Use surplus income: If you have surplus income from other sources, set aside a portion of it each year to cover the premium. This ensures that your premium payments are covered, even if the dividends fall short.

SIP in a debt fund: You can consider starting a small Systematic Investment Plan (SIP) in a debt fund or liquid fund. This can act as a safety net in case dividends are insufficient in any year. Debt funds are more stable and can provide moderate returns with lower risk than equity funds.

Emergency fund: If you don’t already have one, consider building an emergency fund. This can provide you with liquidity to meet your insurance premium payments in case of a financial shortfall in any given year.

Regular Review of Investments
Investing with a long-term horizon is excellent, but it’s equally important to review your investments regularly. Here’s what you should do:

Annual performance review: Check your mutual fund’s performance every year. If the fund is consistently underperforming, consider switching to another fund with better prospects.

Rebalance if necessary: Over time, your risk profile might change, or market conditions might shift. In such cases, you may need to rebalance your portfolio to align with your goals.

Stay updated with your financial goals: As time passes, your financial goals may change. You might decide you need more than Rs. 50 lakhs, or you might achieve this goal sooner than expected. Be flexible and adjust your strategy accordingly.

Building a Diversified Portfolio
While equity mutual funds are a good choice for long-term growth, it’s important not to put all your eggs in one basket. Diversification can help reduce risk and improve the stability of your portfolio. Here’s how you can diversify:

Equity funds: Continue to invest in equity funds for long-term growth. However, consider diversifying across different types of equity funds (large-cap, mid-cap, multi-cap) to reduce risk.

Debt funds: You can allocate a small portion of your portfolio to debt funds for stability. These funds are less volatile and provide more predictable returns than equity funds.

Gold: Gold is often considered a hedge against inflation and market volatility. You could allocate a small percentage of your portfolio to gold to add an element of safety.

PPF or EPF: If you aren’t already contributing to a Public Provident Fund (PPF) or Employees’ Provident Fund (EPF), consider these options. They provide a fixed return and can act as a stable part of your long-term financial plan.

Final Insights
Your idea of investing Rs. 3 lakhs in equity mutual funds for 30 years is a sound one, provided you manage expectations around dividends and market performance. A growth plan might be a more efficient option, allowing you to build a corpus through the power of compounding. At the same time, ensure you have a backup plan for premium payments, such as using surplus income or maintaining an emergency fund.

Remember, the key to successful investing is patience, regular review, and staying adaptable to changing circumstances.

Best Regards,

K. Ramalingam, MBA, CFP,

Chief Financial Planner,

www.holisticinvestment.in

Ans: Sir, from the details shared, it's clear that you have a well-thought-out approach for managing your LIC policies and potential loans. You have multiple traditional LIC policies maturing over the next five years, each with a sum assured of Rs 1 lakh, along with bonuses and loyalty additions. You plan to pledge these policies for a loan of Rs 5 lakhs, which will be repaid with the maturity benefits over five years.

As a disciplined bachelor with no financial or family commitments, your intention is not to create a legacy but to use this capital for your future income needs through SWP (Systematic Withdrawal Plan). This reflects careful planning, and I appreciate your disciplined approach towards managing your finances at this stage of life.

Let’s break this plan down step by step and provide insights on its feasibility and alternative options.

Key Considerations for Taking a Loan on LIC Policies
Loan Interest Rate: You are planning to take a loan at 10% per annum with no EMI commitment and interest payable half-yearly. This means that your interest will keep accumulating, and you'll need to ensure the maturity benefits are enough to cover the outstanding loan and interest.

Interest Payment: The key here is that interest needs to be paid regularly. Not paying interest would result in compounding, which could lead to a higher loan burden over time. Even though you plan to pay off the loan using the maturity proceeds, it's important to evaluate if the total maturity value will be enough to repay the full loan amount and accumulated interest.

Reduced Death Benefit: As you rightly noted, in case of any unforeseen events, the death benefit for your nominee would reduce because of the outstanding loan. Since you do not have family commitments, this might not be a major concern, but it's still something to keep in mind.

Avoiding Locking Capital: By availing the loan now, you are trying to avoid locking your capital for five years and aiming to earn higher returns in mutual funds during this period. This strategy could potentially yield better returns than the interest cost, provided you invest in suitable equity funds with a higher growth potential.

Let’s now move on to the part about using this Rs 5 lakh effectively over the next five years.

Investment in Aggressive Equity Mutual Funds
Since you are not looking for immediate liquidity and are comfortable with market risks, equity mutual funds are a good option for long-term growth. The key to growing your capital aggressively is selecting funds that have a proven track record in terms of consistent performance and strong fund management.

Here’s how investing in aggressive equity mutual funds can benefit you:

Potential for Higher Returns: Over a five-year period, equity mutual funds tend to outperform other investment avenues. Funds that focus on small caps, mid caps, and sectors with high growth potential can give better returns compared to traditional investments like FDs or bonds.

Diversification: Aggressive equity funds typically invest in high-growth companies across various sectors, offering you the potential for better returns while spreading your risk.

Power of Compounding: By investing this Rs 5 lakh in equity mutual funds, you can benefit from the power of compounding, especially if you stay invested for the full five years without withdrawing. The longer you remain invested, the better your chances of achieving your target returns.

Market Volatility: While aggressive equity funds can offer high returns, they are also subject to market fluctuations. This is why it is important to choose funds that have performed well even in volatile market conditions. You should be prepared for some short-term volatility and focus on the long-term growth potential.

Now, let's evaluate whether taking this loan and investing it in aggressive equity funds is a prudent decision.

Loan vs. Investment Returns: A Practical Assessment
Interest vs. Potential Returns: The key factor here is whether the returns from your investment in aggressive equity funds will outpace the interest you are paying on the loan. While the loan is at 10%, equity mutual funds have historically provided returns in the range of 12-15% or even higher over the long term.

Risk Management: While equity mutual funds have the potential to offer higher returns, there is always the risk of capital loss due to market volatility. You must be comfortable with this risk, especially since you are planning to use these funds for a SWP after five years.

Time Horizon: Your time horizon of five years is relatively short for aggressive equity funds, but it’s still long enough to potentially see good returns, provided you stay invested and the market performs well. If you were planning for a longer horizon, such as 7-10 years, the risk would decrease further.

SWP Setup After Five Years: Your plan to set up a SWP after five years is a smart way to create a regular income stream. By the sixth year, you can start withdrawing from the accumulated capital, using it to support your monthly expenses.

Potential Risks and How to Mitigate Them
Market Fluctuations: Equity investments can be volatile in the short to medium term. If the markets face a downturn at the time of withdrawal, it could affect your SWP income. To mitigate this, you could gradually move a portion of your equity investments into safer instruments (like debt funds) as you approach the fifth year.

Interest Payment Discipline: Even though there is no EMI commitment, the loan’s interest needs to be paid regularly. Skipping these payments can cause the loan to balloon due to compounded interest. Ensure you have a mechanism to pay this interest either from your savings or from other sources.

Liquidity Needs: Since you are investing for five years, ensure you don’t need to access this money before then. Equity investments should not be liquidated prematurely, especially during a market correction.

Alternatives to Taking a Loan
Before finalising this decision, consider alternatives to taking a loan. Since you don’t require this Rs 5 lakhs for immediate use, you might want to avoid paying interest altogether by simply waiting for the policies to mature over the next five years.

Direct Investment from Savings: Instead of taking a loan and paying interest, you could consider investing smaller amounts from your savings into aggressive mutual funds over the next five years. This would reduce the burden of paying interest while still allowing you to benefit from market growth.

Partial Investment: Another option is to take a smaller loan amount (perhaps Rs 2-3 lakhs) and invest it in equity mutual funds. This way, you reduce your interest payment while still benefiting from potential capital appreciation.

Ideal Equity Mutual Fund Selection Criteria
When selecting equity mutual funds, focus on funds that meet the following criteria:

Consistent Track Record: Look for funds that have consistently performed well over the last 5-7 years, even during market downturns.

Experienced Fund Managers: Funds managed by seasoned professionals tend to navigate market volatility better, giving you a sense of security.

Sectoral Allocation: Check whether the fund invests in high-growth sectors such as technology, healthcare, and consumer goods, which are likely to perform well over the next few years.

Expense Ratio: Choose funds with a reasonable expense ratio. High expense ratios can eat into your returns over time.

Final Insights
In conclusion, taking a loan on your LIC policies and investing it in aggressive equity mutual funds could be a good strategy for capital appreciation over the next five years. However, it comes with its risks, especially the interest burden and market volatility.

By investing in carefully selected equity mutual funds, you can potentially earn higher returns that outpace the loan interest. However, ensure that you are comfortable with the market risks and the discipline of interest payments.

If you prefer to avoid the interest cost altogether, consider alternative strategies such as investing smaller amounts regularly from your savings. This could give you peace of mind while still allowing you to benefit from market growth.

In either case, equity mutual funds can be a powerful tool for growing your wealth, provided you invest with a long-term view and in line with your risk tolerance.

Best Regards,
K. Ramalingam, MBA, CFP,
Chief Financial Planner,
www.holisticinvestment.in
Instagram: https://www.instagram.com/holistic_investment_planners/