Got a question about your money? What you should or should not do with it?

Our expert Devang Shah has the answers.

I'm an IT professional with a take-home salary of Rs 42,000. I am the only earning member in my family. My monthly household expenses amount to Rs 15,000.

 My credit card debt is around Rs 1,00,000 and I have around Rs 1,80,000 in loans.

 My younger sister has joined an engineering college. I need to save at least Rs 3,00,000 for her wedding which should be in 2008.

I would like to take a home loan but obviously cannot till I settle my current debts.

How must I proceed?

- Prasad Mamidi

Hello Prasad.

You are bang on target about paying off these debts as a priority.

• Get out of debt, NOW!

Whether or not you should go in for a home loan right now would depend on other factors:

~ Your assets (what you own)

~ Your liabilities (what you owe)

~ Your age.

Let's assume for a moment you do not have any other assets and you are around 30 years old.

Let's further assume you are capable of saving about Rs 20,000 every month; this way, it will take you till the middle of 2007 to repay all your loans.

Here are a couple of important questions:

1. Can you save 20,000 every month?

2. Do you get bonuses?

If the answer is affirmative to both these questions, you can consider putting away the bonuses for your sister's wedding/ home down payment in low risk investments with the appropriate maturity and liquidity.

Floating rate debt funds are a good option. These are funds that invest in fixed-return investments which have a floating interest rate and not a fixed interest rate. This means that the rate of interest on such investments rise as the interest rates rise (just as in a floating rate home loan). 

Do not be disappointed with the returns. Alternative investments might leave you with lesser money for the time horizon you are looking at.

It is true that low risk instruments will give you a low return, but the fact is that you cannot afford to take a risk with this money. So, even if you are getting a low return, at least your principal is safe.

This is sensitive, but there seems to be a disconnect in your low monthly expenses as compared to your take-home salary and a high debt (credit card and home loans). If these are just lifestyle expenses paid out of borrowed money, you probably need to look at such expenses in the perspective of the bigger goals you may want to achieve.

Consider all your important goals: buying a home, retirement funding (which nobody other than yourself is going to fund), children's education, sister's wedding) and the resources you are going to need to achieve them.

You also need to seriously consider buying plain term insurance on your own life because you are the only earning member and your family's entire financial future depends on you bringing home the bread.

As a parting word, I would recommend that you get a broad financial plan worked out for yourself by a professional. That will give you a better handle on what you need to do now to achieve these significant events in the future.

• The best funds to invest in

I am 22 and single.

Expenses:

- Monthly rent and expenses: Rs 3,000

- Money for parents: Rs 4,000

I would like to purchase a car in the next few months. It should cost me Rs 5,00,000 to 6,00,000. I will take a loan for it and am saving for the downpayment.

I have borrowed around Rs 20,000 from a friend which I have to be repay over the next few months.

Investments:

I plan to get married in 2008 and would like to invest in mutual funds for this expenditure.

I deposit Rs 1,000 every month into my PPF account. I also contribute 13% of my basic into the Voluntary Provident Fund.

Every three months, I pay a life insurance premium of Rs 4,000.

- Vikas Shivashankar

Vikas, for starters it would have helped to know how much you earn :). It appears to me that you have a fair amount on your plate to take care of.

Let's assume you earn 20,000 a month. Out of which you manage to save about Rs 8,000, over and above PPF, EPF and insurance. Your Equated Monthly Installment (amount you have to pay every month towards servicing your loan) for the car will be more than your savings. A 80% funded car loan (Rs 4,80,000) at 8% pa over three years will have an EMI of approximately Rs 15,000. And you still have to pay back your friend!

Alternatively, assuming there is surplus left to save and invest, I would look at the three year time horizon and recommend largely debt-oriented mutual funds. These are mutual funds that invest in fixed return instruments as against equity mutual funds that invest in shares.

You can consider investing by way of monthly Systematic Investment Plans whereby fixed small amounts are invested every month into your fund. You can put a small amount in diversified and value oriented equity mutual funds (explained below) and the balance in debt arbitrage funds and floating rate funds (explained below).

Floating rate debt funds are those that invest in fixed-return investments which have a floating interest rate and not a fixed interest rate.

An example of an arbritrage fund is the Benchmark Derivatives Fund. These are mutual funds which do not invest in the stock market. However, they take advantage of the stock price difference in the spot market and the futures market. Read Use Options to make money to understand what the spot market and futures market is.

It's very much like a debt fund (funds that invest in fixed return instruments) except that they might make a little more money in a market marked with volatility. I personally expect them to make a 1% to 1.5% higher return than a floating rate fund without substantial increase in the risk. With rising interest rates, plain debt funds are not likely to do very well.

Also keep in mind that, at the levels at which the stock market is, there is substantial downside risk in equity funds in the next three years. In other words, the chances of losing money in this market appear far higher to me than the chances of making money. 

Value funds are those in which the fund manager looks at the fundamentals of the stocks and invests in them, irrespective of whether or not other fund stock market players are bullish on them. Theoretically, the fund manager would not mind picking up a stock that the market hates, if he finds value in it. Similarly, the fund manager would not touch a hot favourite of the stock traders if they do not believe it is a good value proposition.

Templeton India Growth Fund and Prudential ICICI [Get Quote] Discovery Fund are supposed to be value funds. Value funds, due to their structure, are expected to be less volatile than other equity funds.

Illustration: Dominic Xavier

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