12 Common Financial Planning Mistakes And the Ways to Avoid Them

Creating a financial plan provides you a direction towards achieving your life goals, helps you make sound financial choices and investment decisions, and brings significance to it. Financial planning encompasses assessing the amount of money you need to earn, save, spend, and invest to attain your life objectives. Nonetheless, a large number of people have difficulty managing their finances properly, which is often linked to their spending and lifestyle practices. Nevertheless, by getting the fundamentals right, managing finances can become more straightforward. This article explains 12 common financial mistakes and different ways to avoid them.

1. Without a Goal:

Investing without a goal is a common financial planning mistake that many novice investors make. You must have a specific goal in mind for investment, such as your retirement, buying a house, children's higher education, etc. Without a clear goal, you may risk making impulsive investment decisions that do not align with your long-term objectives.

How you can avoid it - You can start by setting Systematic, Measurable, Achievable, Realistic, and Time-bound, i.e. S.M.A.R.T. financial goals. Determine how much money you need to save and by what time frame. Also, assess your risk tolerance and the level of risk you are willing to take to reach your goals. Research different investment options and strategies that align with your objectives, and develop a plan to reach them. Furthermore, regularly monitor and adjust your investment plan to ensure you stay on track to achieve your goals. By investing with a clear objective in mind, you can make informed investment decisions that are more likely to lead to long-term financial success.

2. Not Creating a Budget:

Lack of budget usually leads to overspending, excessive borrowing, and not saving enough for your financial goals. Not having a clear idea of your income and spending and where your money is going can result in overspending on unnecessary items and ignoring primary expenses and goals like paying loan EMIs and saving for retirement.

How you can avoid it - To ensure your financial planning doesn't fail, you should create a yearly budget that tracks your income and expenses and split it into a monthly/weekly budget. You can start by listing all your sources of income, such as salary, rent, income from a side hustle, etc. and fixed expenses, such as rent, utility bills, and loan EMIs. This will help you prioritise your expenses and identify areas where you can cut back.

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3. Sticking to Traditional Investment Products:

Most Indians still prefer gold, bank fixed deposits, and real estate as investment options. Many people perceive market-linked financial instruments like equity mutual funds to be highly risky and abstain from investing in them entirely. However, traditional investment products can limit the potential for diversification and higher returns in the long run. While these products have historically been popular, they may not always provide the best returns in the long term and may not generate inflation-adjusted returns.

How you can avoid it - Before investing, you should educate yourself on investment options and seek professional advice if necessary. While market-linked financial instruments like stocks and equity mutual funds carry higher risks, they have the potential to generate inflation-beating returns and create wealth in the long run. To mitigate investment risks, consider diversifying your portfolio by allocating a small portion of your investment to safer financial instruments like bank FDs.

Carefully selected equity mutual funds can be a suitable investment option for investors who want to achieve their S.M.A.R.T. financial goals. By investing in various asset classes, investors can reduce the risk of market volatility and receive a more stable investment experience. However, while choosing the mutual fund schemes for your financial goals, make sure you analyse your investment objectives, risk appetite, and investment horizon carefully.

4. Living Paycheque to Paycheque:

Living paycheque to paycheque is another common financial planning mistake because it can lead to financial stress, accumulation of debt, and inability to save for important financial goals. When you live paycheque to paycheque, you rely on each paycheque to cover your basic expenses and have little or no savings to fall back on in case of emergencies or unexpected expenses.

How you can avoid it - To break the cycle of living paycheque to paycheque, you need to make some lifestyle changes, such as cutting back on non-essential expenses like dine-outs, vacations, etc. or finding ways to increase your income by taking on a part-time job or freelancing to boost your income and build up your savings.

5. Lack of Debt Management:

Lack of debt management is a common financial planning mistake that leads to high levels of debt accumulation, missed EMIs, and damage to your credit score. When you don't manage your debt effectively, you may end up paying more in interest and fees, making it harder to achieve your financial goals and build wealth.

How you can avoid it - Understanding your interest rates, minimum repayment amounts, due dates, etc., will help you get to know your debt in detail. It is advisable to make a list of all your debts, such as credit card outstanding amounts, unsecured loans, mortgages, etc. Once the list is ready, start prioritising the debt repayment based on interest rates. It is a good idea to pay off higher interest rate debts first. You can consider consolidating your debts into a single loan with a lower interest rate so that you have only a single EMI to pay at reduced interest costs. Furthermore, you can create a repayment plan that fits within your budget. Commit to paying off a set amount of debt each month, and stick to this plan even if it means making sacrifices in other areas of your budget. It is also advisable to use cash or debit cards instead of credit cards for your purchases. If you do use credit cards, pay off the balance in full each month to avoid paying interest charges.

6. Not Checking the Credit Report Periodically:

Not checking your credit report can result in errors/inaccuracies and frauds that can negatively impact your credit score and financial wellbeing. Your credit report contains information about your credit history, payment history, outstanding debts, and other financial information that lenders use to assess your creditworthiness.

How you can avoid it - It is recommended to periodically check your credit report for errors and inaccuracies. You can access a free credit report from the major credit bureaus once a year. While reviewing your credit report, make sure you check for any errors/inaccuracies such as incorrect personal information, accounts that do not belong to you, payments that have been incorrectly reported as late/missed, and signs of fraud or identity theft. If you find any errors or signs of fraud, contact the credit bureau immediately and inform about the same.

7. Lack of Tax Planning:

If you do not do proper tax planning, you will end up paying more taxes than necessary by missing out on tax deductions and rebates. Proper tax planning can help you minimise your tax liability and increase your savings, thereby achieving your financial goals.

How you can avoid it - In order to take advantage of the tax deductions and rebates, you need to stay up to date with different Sections of the Income Tax Act, such as 80C, 80D, 80DDB, 10(10D), among others. If tax planning is too complicated for you, it is better to consult with a tax professional or financial advisor to ensure that you are maximising your tax savings. You should also plan for the tax implications of investment income, such as capital gains and dividends. Consider holding investments for more than a year to take advantage of lower long-term capital gains tax rates or investing in tax-efficient investment avenues.

8. Ignoring the Inflation:

Ignoring inflation can cost your financial plan as inflation erodes the purchasing power of your savings over time. Inflation is the increase in the price of goods and services over time, which can reduce the value of your money and affect your standard of living.

How you can avoid it - It is crucial to consider inflation when creating a financial plan. The best way to account for inflation is to invest in avenues that have historically provided returns above the average inflation rate, such as stocks and equity mutual funds. While these investments may carry higher risk, they also have the potential to provide inflation-beating returns over the long term. It is advisable to review your investments regularly and make adjustments as needed to account for inflation rates. You can work with a financial advisor who can help you create a diversified investment portfolio that takes into account inflation and other economic factors.

9. Investing Through Friends & Relatives:

Most of us buy insurance policies through friends, relatives, or known agents. Many of us also buy a particular product/service because someone we know had a positive experience with it. However, by doing this, we not only risk our money but also potentially damage our relationships.

How you can avoid it - It is advisable to make informed decisions based on your own financial needs and goals rather than relying solely on the experiences or recommendations of others. Finding a competent, experienced, and trustworthy financial planner may seem like a difficult and nearly impossible task. However, it is not. You just need to be patient and willing to take responsibility in the financial planning process. Before hiring a financial planner, ask for references and verify their credentials. Ask relevant questions about how they plan to help you achieve your goals, question their recommendations, and ask for alternatives and backup plans in case their plan fails to meet your expectations. Furthermore, it's important to stay actively involved in the investment process. While you should have confidence in your financial planner's abilities, it's crucial not to blindly trust them. Always stay within the realm of confidence and avoid crossing over into blind faith.

If you're unsure how to begin planning your finances, don't hesitate to call us on 022-61361200 or drop a mail at info@personalfn.com. We offer mutual fund investment consulting services and can help you create a sound financial plan that aligns with your life goals. As a SEBI-registered investment advisor, PersonalFN is committed to providing reliable and trustworthy financial guidance.

10. Not Buying Adequate Insurance Coverage:

Not buying adequate health insurance and life insurance coverage is a common financial planning mistake that can leave you and your family vulnerable to financial losses in the event of an unforeseen event such as illness, accident, or death.

How you can avoid it - You should assess your insurance needs based on your financial situation, age, health, and other factors. Consider the potential risks you may face and the amount of coverage needed to protect yourself and your loved ones adequately. Shop around and compare different insurance policies and their terms and conditions to find the one that best fits your needs and budget. Regularly review your insurance policies to ensure they are still adequate and adjust them as needed to account for changes in your life circumstances.

11. Not Having a Contingency Fund:

Not having a contingency fund is a common financial planning mistake because emergencies can arise at any time, such as medical emergencies, car repairs, job loss, or home repairs. Without a contingency fund, you may have to rely on credit cards or loans to cover these expenses, which can lead to debt and financial stress.

How you can avoid it - It is advisable to create a contingency fund as part of your financial plan. You can start by calculating your fixed monthly expenses and aim to save 6 to 24 months' worth of living expenses. It is recommended to create a separate savings account specifically for your contingency fund. This will help you avoid spending money on non-emergency expenses and make it easier to track your progress.

12. Not Reviewing the Financial Plan:

Not reviewing your investment portfolio regularly can be a financial planning mistake because it can lead to your investments being misaligned with your goals or not performing as well as they could. This could result in missed opportunities to optimise your investments or to minimise risk exposure. Additionally, as your personal and financial circumstances change over time, the investments that were once suitable for you may no longer be the best fit for your current situation.

How you can avoid it - Regularly reviewing your investment portfolio is essential to ensure that it is performing well and in line with your evolving lifestyle and objectives. This enables you to adapt to any personal or economic changes that may occur in the future. For example, it is recommended to monitor the performance of equity investments periodically since a specific stock or equity mutual fund may not be performing well. Additionally, an equity mutual fund scheme may undergo changes in investment objectives or styles that are no longer appropriate for your investment goals. Therefore, it is wise to frequently review your plan and remove any investments that no longer align with your objectives.

To conclude:

If you have noticed any errors in your financial planning or wish to avoid them in the future, please contact us for more information on Financial Planning. PersonalFN is committed to providing impartial and truthful insights and advice on a variety of personal finance issues that may impact your finances and investments. We have been providing customised financial planning solutions to our clients in India and NRIs to support them in achieving their financial objectives. Our tailored Financial Planning services can assist you in accomplishing all of your financial goals, such as planning for retirement, saving for your children's future, assessing insurance needs, buying a house, and more. Whether you require a financial plan for single or multiple objectives or simply want to evaluate your mutual fund and insurance portfolio, PersonalFN has everything you need.

KETKI JADHAV is a Content Writer at PersonalFN since August 2021. She is an MBA (Finance) and has over seven years of experience in Retail Banking. Ketki specialises in covering articles around banking, insurance, personal finance, and mutual funds and has been doing it for over three years now.

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