As all of us will probably agree, the college education of our children is next only to retirement in our priority of goals. The way things are in our country right now, a good college education is not only desirable but also imperative to deal with the kind of competitive environment that exists. In a previous post, I had given some idea about the different options available in the Engineering education and some ball park costs regarding these. In this post, I will try to outline a case study showing how much you may actually need in monetary terms and how should you plan for it.
To begin with, here are the set of assumptions that I am making for the case study in this post:-
- Ravi and Madhuri have a 3 year old son Ankit for whom they want to plan. They are looking at a good government or private college for Engineering education in about 15 years time.
- Current costs of fees, hostel and other related expenditure comes to about 3 lacs per year. This has been growing at 12 to 15 % every year and the trend is likely to continue.
- Though the couple realize IIT etc are less expensive today they want to plan for the higher figure as admissions to government colleges are tough and even there, subsidies may well be withdrawn after a few years.
The financial planner that Ravi goes to gives him the following plan:-
- Total cost of the course today will be 12 lacs. Projected cost after 15 years assuming an inflation of 12 % is 66 lacs and with an inflation of 15 % the cost comes to 97 lacs. They decide to work with the higher figure.
- At an assumed XIRR of 12 % over a 15 year period, Ravi will need to invest 20000 Rs per month.
- This looks fine by itself but there are a few critical issues to consider.
- What happens if they have another child and need to invest the same amount?
- If you take overall SIP for retirement, children education, marriage then the total SIP needed will be in the region of 75000 per month.
- Ravi already has an EMI of 50000 Rs for the home loan, so even with a take home salary of 1.5 lacs per month he will be struggling to get all these done.
- What happens if the markets crash 2-3 years prior to the college going goal? Ravi can cover this by investing in debt products but he is already short of his overall investment needs.
Note that the above situation arises because of faulty planning and over reliance on Maths and calculators instead of common sense. The first thing to understand is that Ravi will still be working, or at least earning active income, when his son goes to college. Now if his take home salary is 1.5 lacs today then even at a conservative estimate of 7 % annual increase, it will become 4.14 lacs per month when Ankit goes to college. Surely he can fund part of the college fees from his active income at that point?
The problem lies in the completely wrong and rigid way financial planning is done in our country today. The whole idea of having separate portfolios for separate goals and therefore, running multiple SIP in equity and also possibly debt funds is completely illogical and benefits only the Fund houses. The other problem is that people who have been converted into this band wagon of goal based investing and mindless SIP, become ardent supporters of it and start hammering it into the consciousness of all future investors that this is the only way to do it. They may have good intentions but then they are so completely wrong that you should not touch their advise with the longest of barge poles.
OK, all that being fine what should Ravi be really doing then?
- Understand that even if the education cost comes to 97 lacs overall, he will really be needing 24 lacs every year. More accurately he will need 12 lacs every semester as all Engineering colleges operate in that mode.
- If he is investing in PPF and maximizing his contribution for 20 years, he will have enough money to cover for a large part of the expenses for Ankit.
- He should invest in MF, maybe even through SIP but have only 1 MF portfolio. The initial amount of investment is immaterial, he can invest whatever he has surplus without compromising on his lifestyle.
- Attempt should be to pay off the housing loan quickly so that the EMI can be channeled to investments.
- As his salary increases and he is able to pay off the home loan, more funds will be automatically available for his investments. So even if he can invest 30000 to 40000 in MF today instead of the 75000 that his planner is saying it is absolutely fine.
- He should focus on leading a good life and not worry about keeping on hammering away at all calculators, imagining what all can go wrong.
How do I know this will work? Precisely because, I have gone through this myself and know that it works. In the next post I will outline my experiences so that the message is driven home in a clearer manner.