Get your personal finance fundamentals right: 4 money misconceptions vs the truth

Insurance not only protects your life and limbs but also your wealth. When you begin to build wealth early in life, you only have the human asset, I.e. yourself and your life to depend on. You hope to live to earn an income and build more assets for yourself. Even more if you have a family or dependants.

Insurance is your tool to ensure that the created wealth protects you and your family, should anything happen to the human asset, in which case your insurance proceeds will kick in and make up. That is why the calculation of how much insurance you need considers the income, the spend and the savings. You choose the target you want to set for your desired wealth.

You need insurance earlier in life, as the shield that protects your wealth. It is not an investment, even if it is sold as such. Term insurance is the cheapest since it serves the core purpose of offering a lump sum funding to your dependents if you were to pass away. If you believe you must provide for your child’s higher education, you have the option of comparing a term insurance and an investment product separately before bundling the two together. When you are 65 and at nearly the fag end of your earning phase, it would be both expensive and superfluous to try and buy another cover of the same value. Since you are aging, you pose a greater risk to the insurance company too.

At 65, you certainly don't need this expensive option. Ideally, your retirement corpus should have enough to get you whatever you need. Even if you did use your assets as collateral to borrow, you would have to repay it from your investment income. The math won’t work out. Your assets may earn a return that is lower than the interest rate on the loan.

Instead, you should focus on optimizing the return on your investments and assets and taking on an income and spending orientation, rather than trying to build new assets. A loan is only a facility to use tomorrow’s income today. It is always an expensive choice to exercise. The interest on the loan is the price to pay for this facility. A loan is useful when there is enough income to pay an installment but not enough wealth to buy the asset today. Most would not have been able to own a home if not for this facility, even if it comes with a cost. The lender will care primarily about the value of the asset being funded and the ability of the borrower to repay.

There is nothing wrong with keeping one’s money with the government, or technically speaking, lending to the government. But that is why the government gets away with paying the lowest rate of interest. In the lending market, the rate at which the government borrows is the base rate. No one can borrow cheaper than that. There is no questioning the ability of the government to honor its obligation to pay the interest and return the principal. It can unilaterally raise taxes; borrow abroad and in the worst case print money. This, as we know it, is the borrower’s side of the story.

As a lender, know if you are being extremely risk-averse when settling for a low rate of return. The answer is not to swing wildly to lend to the neighborhood finance company that is offering an eye popping rate. Many sensible choices exist in the middle. Managing the retirement corpus needs a strategic approach to allocating how much will be invested where. Some amounts for growth in equity assets, some in quality income assets that offer a good interest, some for safety and security, and some for easy withdrawal and use. A combination that keeps risks low and returns optimal. Blindly choosing one form of investment is clearly suboptimal for risk and return.

The mechanism of this product is that instead of taking a loan and building an asset, you sell the asset in advance to enjoy an income stream. The lender buys your house for a price today but agrees to pay you a monthly installment for many years, at the end of which they take over the house. You continue to live in the house while earning an income.

This is a distress option. You give up the appreciation in the value of your house, in return for an income you desperately need. If you have only a house as an asset and no other wealth or income, reverse mortgage is your last choice. Don’t treat it like a regular option for income.