I have been a supporter of PPF for a long time now and it has been a cornerstone of my financial planning since my early days of investing. It is also a topic over which I have had several debates with many of my friends. The commonly held view is that PPF is an old and stodgy product, rates are controlled by government, it is essentially having poor liquidity and is not something that you need if you are having PF.
Let me explain in this post how I have used PPF and why I think you must have it in your portfolio. I will do this by explaining some of the aspects of PPF and drawing upon my own experience in this.
The first thing to understand about PPF is that it is a long term product and needs to be viewed and used as such. The normal term of a PPF account is 15 years and this can be extended indefinitely in terms of 5 year periods. That being the case, you need to open a PPF account as quickly as possible and keep it going for as long as you can. You must also do the same for your spouse at the earliest opportunity. I had opened a PPF account in February 1994 and it is now in its’ 24th year. My wife has had her PPF account mature a few years back and we have opened another one for her 6 years back.
The second important aspect of PPF is the taxation, which is EEE mode and therefore quite unique among all investment options. This essentially means that you get tax benefits on investment, on the interest earned and also on maturity. LIC policies and PF also give you similar benefits but are nowhere near as flexible as PPF. While one can argue that the government policies can change, PPF is the saving option available to the vast number of workers in the unorganized sector and the chances of this happening are really quite slim.
The third important aspect of PPF is that it is a product that demonstrates the compounding principle like no other product does. You can keep investing in PPF over the years and the compounding logic will work its’ magic quietly. The longer you keep your account going, the more you benefit from it. When I look at my own planning, if I keep my investments going in the PPF account for another 10 years, about 50 % of my retirement expenses can be met from this avenue itself.
The fourth important aspect is PPF instills a sense of disciplined investment of a fixed amount every year. Though the amount you can invest is flexible, once you get into the habit of investing the maximum amount at a particular time you will always do it. Human beings are creatures of habit and once it is formed you will tend to follow it diligently. I invest 1.5 lacs every year by the 5th of April and have known many others who do the same.
The fifth important aspect of PPF is the stability that it provides to your portfolio. While there are other instruments that provide far greater returns on your investment, none of these are giving guaranteed steady returns like PPF does. Over a period of time this builds up to a very substantial figure and serves as a hedge for the fluctuations in the other parts of your portfolio. Investing 1.5 lacs regularly in PPF for 35 years will end up as a corpus of 3.28 crores !!
However, while I like PPF for all of the other things, the real importance of it to me lies in the way I can use it in my overall financial planning. There are really 3 definitive uses that I have of PPF in my financial planning and they are as follows:-
- In my current state of financial independence it provides me with a buffer that I can use should other things go wrong. For example, I earn a fair amount of dividend income from my stock portfolio. While this is good, there can be years where the dividend is less due to market conditions. In such a case, I can withdraw some amount from my PPF to meet the shortfall. Note that this is tax free.
- I have explained several times that the greatest danger of wealth destruction lies in selling equity at the wrong time. Yet many of us are forced to do it in order to meet a goal. Having a PPF account for a long time ensures that I have enough in it to meet any of my goals save retirement. This means I am free from the vagaries of the stock market. If my goal arrives at a time when the markets have crashed, I simply use money from my PPF.
- Once I retire I may or may not keep putting the full amount in PPF depending on funds availability. However, I will continue both of our accounts as it gives me tax free interest at a good rate. In this respect, it is similar to the tax free bonds that some of you may have invested in. I will withdraw money from it as needed and in the end it can be a pretty neat sum for my grandchildren.
Let me now suggest an innovative way of using PPF for short term goals. You may have PPF accounts which you are not funding fully today. Let us say you want to take a vacation abroad in 5 years time. The normal way will be to invest in debt funds or RD / FD etc. However, these involve fairly complex transactions in terms of purchase mechanics and taxation. A far simpler way will be to fund your PPF account with the required amount every year. You earn tax free interest and can simply withdraw the money when the goal is at hand.
My recommendation is that anyone should open a PPF account as early as possible, contribute to it as much as they can, keep it going forever and withdraw from it based on their financial plan. It may not be glamorous or exciting but this is one solid investment that you can depend on and will always stand you in good stead.
I will be happy to answer any specific query that readers may have on investing in PPF.
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