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Monday, Oct 8, 2012

Eight crucial numbers to ensure financial success

[Source : The Economic Times]

As you pass through different stages of life, you will need to assess your financial health to ensure the achievement of all your goals. The following numbers can act as mile markers and help you know if you are saving enough, identify your insurance and emergency needs, and help answer other critical financial questions.

1 savings-to income ratio: If you are in your 30s, you should strive for a 1:1 ratio between your liquid assets and annual income. Liquid assets include your investments and savings. Leave your home as it can't be converted to cash easily. In other words, a 35-year-old making Rs 6 lakh annually should have the same amount in savings.

The ratio, according to standard wisdom, increases with age. For a couple aged 40, it should be around 1.5 or higher. At 45 years, the ratio should be around 3, and at 50, it should be 4.5. The ratio will give you a good idea if you are saving enough to reach your retirement goal.

2 Years to save tax on sale of property: You can claim tax exemption under Section 54 on the long-term capital gain from the sale of a house if you use the entire profit to buy another house within two years. If you had already bought a second house within a year before selling the first one, you could still avail of the tax exemption.

3 months' expenses in an emergency fund: A contingency fund should cover eventualities such as job loss or medical issues. To many, salting away three months of living expenses seems impossible, let alone the six-month cushion that some experts advise. Remember not to put this fund in your regular bank account. Stash the contingency cash in liquid funds or a separate savings account. You won't earn a high interest, but it will be easier to access when you really need it.

10 times the annual income is your life insurance: As a general rule, you should have life insurance that is about 10 times your annual earning. So, if your annual salary is Rs 6 lakh, you should have life insurance worth Rs 60 lakh. However, your insurance needs will vary based on other factors, such as your age, liability and debt.

15% Savings rate: Although this figure used to be a minimum of 10%, experts now endorse a savings rate of up to 15%. Sub-divide this into 10% for retirement and 5% for short-term saving like a vacation. The rule is also expressed as a ratio of 90:10 or 85:15, wherein you spend the first figure and save the second.

20 times annual income is retirement corpus: According to the rule of thumb, after retirement, you will require 20 times your annual income to replace nearly 80% of the pre-retirement income.

70 - your money's future buying power: Rule of 70 is useful for predicting your future buying power. Divide 70 by the current inflation rate to know how fast the value of your investment will be reduced to half its present value. For example, an inflation rate of 7% will reduce the value of your money to half in 10 years.

This is especially important for retirement planning as it affects the way you set up your monthly withdrawals. However, remember that the inflation rate keeps changing with time.

700 credit score: The Cibil score reflects your credit payment record and is used by lending institutions to determine your eligibility for loans. A credit score of 700-750 on a scale of 900 is considered good, while that ranging from 751-900 is high.

If a customer has promptly made all his payments, does not have overdue amount in any of the loan accounts, and there has been no default or settlement in the closed accounts, his score will be high.

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