Part ll chit fund Vs Regular savings

Please read the first part for continuity.

The chit funds are used mainly for the purposes of savings and loan.

The percentage of people using the chit fund as savings is less and as we saw earlier it does not offer any benefit only increased risk of loss of capital. Majority of the people use chit fund for loan purposes. This amount is normally used for buying jewellery , major house hold expenditure or to cover the short fall in the big ticket expenditure like marriage etc. There is feeling among such people is that the chit fund comes with no interest whereas if they avail loan they may have to pay the interest and it is an extra burden.

In this article we will just see whether it is wiser to go for loan from the bank or to opt for a chit as is done by many people.

In continuation of our last example with a chit amount of Rs 1.00 lakh we will see what will be the net gain/loss.

Normally in all such chit fund, the organizer/owner of the fund takes the first month amount without any auction and only from the second month it is available for auction. In the initial months the demand will be more and the discounted amount may go up to 40000 to 50000. We will take a realistic figure of Rs.30000 and if a person discounts Rs.30000, he will get a sum of Rs.70000. Then he continues pay the sum Rs.2500 every month till the end. As we saw earlier if the chit fund precloses before say 05 months the gain will be Rs.2500*05 = 12500 Finally his net loss/interest will be as follows

	amount	month	total
total paid	2500	35	87500
amount received	(by withdrawal from chit)		70000
loss/interest			17500

So he finally he pays a excess amount of Rs.17500 for the withdrawn amount of Rs.70000.

Now we will see what happens if he opts for a loan from bank. Normally these R&D organization have their own bankers for bank transactions and the employees salaries are also dispersed through these banks. These bank will lend at lower rate of interest than the market rates since they can recover their loan amount through the office.

Suppose if a person opts for a personal loan for the same amount of Rs.70000 at a interest of 10.5 % (prevalent rate ) his EMI for the loan amount will be Rs 2275 for a three year period. Then his net loss/interest will be

	amount	month	total
total paid (EMI)	2275	36	81900
amount received	(by loan)		70000
loss/interest			11900

He finally incurs a excess amount of Rs.11900 only which is less than what he pays
in the chit. Even if we take the bank administrative /processing charges as 1% of loan amount still he gains. The loss is equated only if he auctions at Rs.20000 and get a sum of Rs.80000. Such a scenario is not possible and the demand will be always higher .Further chit is based on auction and someone also in need of money then the bid amount goes up and one will end up paying more. The difference persists even after many intervals say one or two years ,hence the notion that chit fund is free of any interest is not correct and actually one ends up paying more than availing a personal loan from the bank. Hence chit fund does not benefit common man either by way of savings or by loan.

I welcome your comments on the article.

Chit funds Vs Regular Savings

In the present article I just decided to probe the so called benefits of chit fund organized and patronized by the Govt employees ,their wife and other family members. These unorganized chit funds are not registered with Authorities and are operated at neighborhood, canteen, bus stop etc by a single individuals.

Many persons especially in the lower grades of Govt service use these chit fund as savings option due to lack of knowledge and opportunities.

People use chit fund mainly for two purposes

Savings
Loan without security.

we will just see whether putting one's hard earned money in these schemes is really a good saving option or whether it fetches superior returns in comparison to traditional saving instrument option like GPF.

We will take an example of Rs 1.00 lakh as a chit fund amount with monthly subscription of Rs. 2500 for 40 month.

1. Let us see first the return offered by the GPF in such a scenario.

period	contributon	cum.contribution	interest	total
1	2500	0	17	2517
2	2500	5017	33	5050
3	2500	7550	50	7601
4	2500	10101	67	10168
5	2500	12668	84	12753
6	2500	15253	102	15354
7	2500	17854	119	17973
8	2500	20473	136	20610
9	2500	23110	154	23264
10	2500	25764	172	25936
11	2500	28436	190	28625
12	2500	31125	208	31333
13	2500	33833	226	34058
14	2500	36558	244	36802
15	2500	39302	262	39564
16	2500	42064	280	42344
17	2500	44844	299	45143
18	2500	47643	318	47961
19	2500	50461	336	50797
20	2500	53297	355	53653
21	2500	56153	374	56527
22	2500	59027	394	59421
23	2500	61921	413	62333
24	2500	64833	432	65266
25	2500	67766	452	68217
26	2500	70717	471	71189
27	2500	73689	491	74180
28	2500	76680	511	77191
29	2500	79691	531	80223
30	2500	82723	551	83274
31	2500	85774	572	86346
32	2500	88846	592	89438
33	2500	91938	613	92551
34	2500	95051	634	95685
35	2500	98185	655	98839
36	2500	101339	676	102015
37	2500	104515	697	105212
38	2500	107712	718	108430
39	2500	110930	740	111669
40	2500	114169	761	114930

Hence as per the above calculation if you put Rs. 2500 per month for 40 month finally you will get a total of Rs. 114930 thus earning a interest/profit of Rs. 14930 .

In chit fund the fund amount so collected is auctioned among the members with the highest bidder allowed take the amount deducting the bidding amount. In some places the bid amount is divided among members immediately and one has to pay a lesser amount by deducting the interest received. In some places the organizer retains such amount and the bidding amount is allowed to grow till it reaches the fund amount and in the following month two chit is auctioned. This practice is continued till the end and at the end the chit fund closes before the pre-determined period of 40 months and it gets closed in 37 or 38 months as per the bids by the members.

No chit fund pre-closes beyond 05 or 06 months thus giving the benefit of 2500*05= 12500 or 2500*06=15000. Further even if you bid at the last installment you cannot bid for full amount and you have to discount some amount. In the instant case if we take such sum as Rs. 2000 the final profit made by any person will be 15000-2000= 13000. Hence the benefit derived is less than what you get in GPF and to derive the benefit more than the GPF, the chit fund has to pre-close more than 07 months or so and it will be impossible to get a such return.

Hence we can see that chit fund does not offer any substantial benefit and only increased risk of principal and returns less than the GPF .

Pension Plan continued…

Please the earlier part for continuity.

If your first time reader, you can go through all the articles for better understanding of the advantages of the Govt service and the various facilities offered therein like GPF, PENSION etc. and other associated benefits. These blog has been created to help the govt servant especially in R&D institution to take the informed decision before they take the plunge into the private sector by the lure of money .Many are unaware of the benefits available in these organization and their hasty decision should not cost their life and opportunity.

In continuance of the benefits ,we saw an illustration of pension available to Govt servant and vis a vis comparison to a pension plan offered by the insurance companies.

The pension benefit is not available to those who joined on or after 01.01.2004 and Govt of India had implemented the new contributory pension scheme to all new recruits. We will concentrate our discussion on those who are under pension scheme and as seen in the earlier example the basic pay will rise correspondingly according to one's rise in the organization and with the new assessment schemes provide for promotional avenues for next 2 grades within a career span of 8 or 9 years. Hence those who have reached scales of 10000-325-15200, 12000-375-16500 etc. should understand the pension benefits properly.
As per the earlier example One has to contribute approximately Rs.17000 per month to earn the pension to get as is earned by a Govt servant and these elements has to be added to one's pay to have a correct comparison.
However the schemes offered by the private insurance companies called ULIP pension plans are based on the stock market. The returns shown by them are not guaranteed and the benefit are variable with return based on the future performance of the fund . Hence if you read any of such plan details it will mention that the return shown are illustration only and should not be construed as a guaranteed return and the investment risk has to be borne by the investor.
Hence one is not sure how much he will get at the end since no one will be able to predict the market and if the expected returns are lower you may not get the amount equal to the Govt servant pension.
Apart from the above, no one will provide free service and the fees and administrative charges in the schemes are very high and they will collect their charges within first 5 years so that they do not lose anything. Hence their charges are deducted first from the premium and the balance only is invested.
If we calculate the charges some time it may equal one year premium. Even after paying such huge amount as premium charges ,the returns are not guaranteed and one has to undergo that risk associated with such investment and there is no other option available to private sector except to go for such plans hoping everything will go on well.
Compare this with the situation of Govt servant, wherein he has no worry about the market or anything and he is sure to get his pension.

Pension Plans

Please read the earlier articles for continuity

We have seen in the earlier articles the retirement pension given by the Govt R&D institution and the benefits is available till one's lifetime and thereafter to his wife till her life time. The irony is that this is neither reflected in the Govt institution's pay packages effectively nor the leaving employees understood this great benefit.

The need for retirement benefit assumes more significance in today's fast paced life with children going away from the parents, increased standard of living and the desire to continue the same life style etc. The essential payments like medical bills, telephone bills, and house hold expenditure are recurring every month and are unavoidable.

Many of them recognize the need for regular monthly income only that time. The pension plans are meant to provide regular income to individuals after retirement. These plans are offered by insurance companies like LIC, SBI life, reliance, and many other private players.

LIC offers the traditional plans, most of other private companies offer ULIP(UNIT LINKED INSURANCE PLANS) pension plans where the returns are based on equity. These plans offered by these companies are regulated as per the guidelines issued by IRDA (INSURANCE REGULATORY AUTHORITY) the apex body in the insurance sector

When an individual opts for a pension plan, he has to pay a fixed amount known as premium to the insurance company over a predetermined period of time, the term of the policy. At the time of opting for the pension plan, the policy holder defines his retirement age (vesting Age), and after that period he starts getting the annuity(monthly income )till his life time.

The premium paid is eligible for deduction under section 80 C of the Income Tax Act upto an upper limit of Rs.1.00 lakh. The ULIPs have become popular nowadays due to the awareness, marketing by these companies and the continued bull run in the Indian stock markets.
In the last article example, the pension receivable by the govt servant will be Rs 1.75 lakhs per month. We will just calculate the premium payable to equate the same to have the comparsion.

I am just reproducing the illustration given by a life insurance company.

Age(yrs)	30
Policy term (yrs)	30
Vesting(retirement) age	60
annual premium (Rs.)	200000
Death benefit	Nil
Fund value at the end of 30 years	Rs.
6% return	13844040
10 % return	29170660
Annuity
6 % return	1354340
10 % return	2860920

In the above example, if a person pays Rs. 2.00 lakhs per annum for 30 yrs up to the age of 60 yrs, his corpus will grow at Rs. 1.38 crore at 6 % return or Rs.2.91 crore at 10 % return. If he invest the same in annuity he will get Rs. 1354340 per year or Rs 112861 per month with 6 % or return or Rs 2860920 per year or Rs. 238410 per month till his life time. So, as per the above example to get the pension one has to contribute Rs.2.00 lakhs per annum or Rs. 16666 per month till his retirement.
The premium will vary with increase in pay which will result in increase in pension and has to be worked accordingly as per his grade or scale to arrive at the correct decision. Whether this cost has been factored by the employees before they leave?
The above benefit, illustration also does not guarantee such return as per the conditions enclosed and come with riders.
We will see
I welcome your comments

Reverse Mortgage

Please read the earlier parts for continuity.

The element of pension in retirement planning is significant. This pension element is not correctly understood properly and considering the raising life expectancy of Indian population, we can assume that by average the employee will live up to the age of 75 years and adding another 10 years for spouse the monetary support is provided by the Govt for another 25 years without any contribution.
This pension benefit is not reflected in the Govt. employees pay roll and if we calculate the contribution one has to make to get the assured return in one's retired life the CTC of the Govt employees swell and it may be more than what is offered in private sector.
The benefit of pension is not available to MNC companies and to earn the pension one has to contribute from his pocket and this cost has to be added to the benefit to arrive at the correct picture.

Whether this aspect has been correctly looked into or properly explained to the leaving employees of these R& D organization?
Whether the leaving employees are aware of these hidden benefits?

If you refer the earlier part, we made some assumption on the likely pay scales of the Govt employee after 30 years or so with the condition that no increment, no promotion is given to him. The basic pension receivable by him will be Rs.1.75 lakhs per month. To equate this element we need to work out what will be the premium payable by an employee who do not get pension.

The pension plans offered by various insurance companies will give the idea about the monthly premium payable ? The financial security in the form of monthly payments to support one's self and to have respectful life without anybody's support is important and many people are deprived of these benefits and struggling in their late life.

Govt of India has realized the plight of such senior citizens and announced "Reverse Mortgage scheme" in the budget 2007-08.

This scheme allows the senior citizens more than the age of 60 years to mortgage their owned houses to bank and receive monthly payments in the form of loan till their lifetime. They can continue to stay in the mortgaged house till their life time and need not to pay their loan back. After their death, their family members can pay back the loan and get back the house otherwise the banks will sell the house and recover the loan amount. They have the option of drawing the payments either quarterly or monthly as per their liking.

This scheme is welcome step in providing a support to struggling senior citizens and they can spend their life peacefully. In pursuant to the budget announcement, State Bank of India has introduced this scheme from 12^th Oct 2007 and all senior citizens where the husband and wife are more than 58 years of age can avail this facility.

These scheme is one such step in providing support to old age people who do not have pension. This also explains the plight of many senior citizens in the country who are suffering without adequate support.

We will discuss further and calculate the premium payable to have a pension/annuity.

Part ll Retirement planning

Please read the first part of article for continuity

We have been discussing about the retirement planning and the various option provided by the players in the market.

Before we go to the retirement planning, where one has to pay a Premium for certain number of period and then gets a pension, we will just understand the pension given by Govt. to its employees.
Pension is a monthly payment given to the Govt employee after his retirement till his life time for the service rendered by the employee to the Government. Normally the pension is payable at the half of the basic pay drawn at the time of retirement. Suppose if one's basic pay on the retirement is 10000 his pension will be 5000. In addition the employee will be getting the Dearness Allowance as applicable to regular employees calculated on the basic pension.( This defined pension scheme had been withdrawn and from 01.01.2004 new entrants to govt will not have this benefits as per the govt of India order.)

We will just take an example of new scientific officer SC/ Scientist B whose basic pay will be 8000 (based on the Fifth pay commission). Now we has to see what will be his basic pay after 30 or so years because he is going to retire after 30 years. We will take the historical comparison for our calculation to arrive at the basic pay after 30 years.

In the instant example I am assuming that he remains in the same pay with no increment, no promotion.

pay commission	PERIOD(YEAR)	basic pay	percentage increase
III	1976	650
IV	1986	2200	13%(APPROXIMATE)
V	1996	8000	14%(APPROXIMATE)
ASSUMPTION
VI (EXPECTED)	2006	20000	10%
VII	2016	52000	10%
VIII	2026	135000	10%
IX	2036	350000	10%

The basic pay of an scientist as per the III pay commission as on 1976 was 650 and the same was 2200 as on 1986 as per the IV pay commission. In the same way V pay commission increased the pay to 8000. If we see the pattern, the annual increase in pay was around 13% or so and in the similar line, annual increase of 10% for the future is taken and basic pay is arrived accordingly in the above table.

Now we will work out the pension of a employee since we got the basic pay of an employee. A young engineer aged 23 years joined the govt service as on 1.1.2001 and he will be retiring on attaining the age of 60 years as per the prevalent rules of govt. Hence his retirement will be in the year 2038 and his basic pay will be 350000 per month as per our above table approximately. Hence his basic pension will be 350000/2 = 175000 Remember in the above calculation the engineer is not given even a single increment leave alone his promotion. We presume that he remains stagnant in the same basic pay all over his service.

After retirement he will be getting a basic pension of Rs.175000 per month till his retirement.

The above amount forms the bench mark for us to calculate the premium payable by a private sector employee to earn the monthly pension after 30 years.

We will see how the premium works out for such a sum.

Retirement planning

In earlier articles we have been discussing the benefits of savings through GPF available to R&D institution under the Govt.
Recently I read an article about a Survey undertaken amongst salaried IT/ITES employees by Right Horizons, an investment advisory and wealth management firm.

The survey throws in many surprises.

The survey revealed interesting facts about how they plan thier taxes, medical insurance, life insurance and investments.

The most interesting and shocking reveleation from the survey is that 95% of the respondents having an average age of 26 years did not invest inmedical insurance.

95% of IT/ITES respondents were not covered by medical insurance at all.

Even among the ones that were covered under medical inaurance, most of them were covered because their employers deducted premium at source.

81% of them did not utilize full tax benefit under section 80 C ,as less as 5 % invested their

money in tax saving equity linked savings scheme.

Among persons using partial tax savings, the survey observes , Company PF accounted for 30% in value terms.

This article throws in many questions.

This survey correctly points out the declining savings habit among the youngster in the MNCs and many of them even not availing the full tax benefit under section 80 C.

Whether they will be able to continue their lifestyle after retirement?

How are they going to support themselves after retirement?

In such a scenario, the question about retirement planning arises. Everyone is aware that retirement planning is nothing but having sufficient money during one's late years after retirement to support himself and lead a respectable life. .

If you see any financial dailies or news channel, there is much talk about retirement Planning. What is retirement planning and how does it work?
When an individual opts for a pension plan, he has to pay a fixed amount, known as the Premium, to the insurance company over a pre-determined period of time known as the term of the policy.

After his retirement known as vesting age, he will be provided with 1/3 of corpus accumulated as lump sum payment and balance amount is converted into a monthly income ,known as annuity. This schemes is offered by many players, while LIC offers traditional pension plans, private insurance companies offer ULIP(unit linked insurance plan )which is based on equity.

We will see how these schemes operate to understand the pension benefits given by Govt.

Continued from last article

We saw in the last article the benefits of compounding

and how the systematic investment brings in the fortune.

The main benefit of GPF is its flexibility and no other scheme

has the tenure as long as GPF.

The other schemes do not have the long period with them and

the benefit of compounding will be last if there is no long period.

As discussed in our last article if GPF is used as a powerful investment
with the purpose, there is no match to it.

In the following table , I have worked out a sample table wherein our new recruit

withdraws a sum of Rs 3.00 lakhs for self marriage after 5 years and withdraws

Rs. 15.00 lakhs for son's higher education after 15 years and withdraws Rs. 25.00 lakhs

after 30 years for daughter's marriage.

In the above scenario, still he gets a return of Rs. 3.00 crore on retirement.

year	contribution	Cum contribution	interest	total	withdrawal
1	48000	48000	4224	52224
2	52800	105024	8402	113426
3	58080	171506	13720	185226
4	63888	249114	19929	269044
5	70277	339320	27146	366466	300000
6	77304	143770	11502	155272
7	85035	240307	19225	259532
8	93538	353070	28246	381316
9	102892	484208	38737	522944
10	113181	636126	50890	687016
11	124500	811516	64921	876437
12	136950	1013387	81071	1094457
13	150645	1245102	99608	1344710
14	165709	1510419	120834	1631253
15	182280	1813533	145083	1958615
16	200508	2159123	172730	2331853
17	220559	2552412	204193	2756605
18	242615	2999219	239938	3239157
19	266876	3506033	280483	3786515
20	293564	4080079	326406	4406485	1500000
21	322920	3229405	258352	3487758
22	355212	3842970	307438	4150407
23	390733	4541141	363291	4904432
24	429807	5334238	426739	5760978
25	472787	6233765	498701	6732466
26	520066	7252532	580203	7832734
27	572072	8404807	672385	9077191
28	629280	9706471	776518	10482989
29	692208	11175196	894016	12069212
30	761428	12830641	1026451	13857092	2500000
31	837571	12194663	975573	13170236
32	921328	14091565	1127325	15218890
33	1013461	16232351	1298588	17530939
34	1114807	18645747	1491660	20137406
35	1226288	21363694	1709096	23072790
36	1348917	24421707	1953737	26375444
37	1483809	27859252	2228740	30087992

There may be question about new recruit's own house.

We will discuss that aspect also and there the question of opportunity

Cost lost comes into play.

What is the opportunity cost?

We will discuss