I earn Rs. 1 lakh a month. At the end of every month, after settling all my expenses, I normally have a balance of Rs. 50,000-60,000 in my salary account. I prefer to keep this balance in my bank account to meet any emergency spending needs. Is this the right approach? – Manoj J.
First of all, congratulations. Few people can save 50-60% of their income, so this is a win for you. It reveals that you manage your expenses well and have a high propensity for savings and wealth creation. This will help you meet your life goals.
However, it isn’t wise to leave a large part of your income sitting in your salary account. Money left in your bank earns an interest of around 4% per annum, which is not great and slows down wealth creation. Here are some suggestions to help you do better without jeopardising your liquidity during emergencies.
One – having a hefty balance at the month end is a sign you haven’t planned your investments well. You should invest and save at the start of the month and not save and invest what’s left at the end of the month. Since your propensity for saving is high, aim to invest around 30% per your life goals in mutual fund schemes, small savings scheme such as PPF, or any other instruments appropriate for your goals.
Two — save another 30% in fixed or recurring deposits for your liquidity needs. This way, you will earn 6-7% interest on your liquidity rather than a paltry 4%. Also, fixed deposits can be liquidated in an instant if there’s an emergency. This is a better way to manage your liquidity rather than park all your cash in your bank account anticipating an emergency the likelihood of whose occurrence is low.
Three – through these recurring and fixed deposits, build an emergency fund. It should be at least 3-6 months’ worth your current income. Once you’ve achieved this goal, you can leave the money in a fixed deposit which will grow at around 7% per annum. You can keep adding to your emergency fund to bring it in line with your growing income needs.
Four — you must aim to bring down your salary account close to zero by the end of the month. This means that you’ve taken care of your investments, deposited money for liquidity and emergencies, have paid your dues for the month, and can start with a clean slate the next month. Also, salary accounts don’t have a minimum balance requirement. Therefore, you do not need to worry about penalties.
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