How to save and invest for your child's education

 

 

The class of 2018 of the Indian Institute of Management-Ahmedabad will pay Rs 19.5 lakh for the two-year course. This is 400% higher than what the premier B-school charged in 2007. If the fees of the two-year management course continues to rise by an average 20% every year, it will cost roughly Rs 95 lakh in 2025.

Even undergraduate courses have not been spared. The tuition fee for engineering courses in the Indian Institute of Technology (IIT) has been hiked from Rs 90,000 to Rs 2 lakh per annum. This is just the tuition fee—the total cost is much higher. At an average running inflation rate of 10%, a four-year engineering course that costs Rs 8 lakh today is likely to set you back by Rs 17 lakh in another eight years' time.

By 2030, the same would cost more than Rs 30 lakh. If you have not planned well, you could get a rude shock, falling way short of the required corpus when your kid is ready for college. In fact, for engineering and medical aspirants, the costs start even while the student is in high school. Coaching institutes charge anywhere between Rs 80,000-1 lakh a year for preparing the student for the entrance exam. 

This sharp spike in fees is a wakeup call for parents saving for the higher education of their children. "Higher education costs have the highest inflation rates in the country. Parents need to realise it is going to be an expensive affair," asserts Nitin Vyakaranam, CEO, Arthayantra.

This week's cover story is aimed at parents who are saving for their children's education. The investment options before them will depend on the age of the child. If the child is 3-4 years old, the investment choices and strategy will be different than for a parent whose child is 15-16 years old. Our story lists the most appropriate investment options for three broad age groups and the strategies to be followed at each stage. Choose the one that fits your situation to achieve your dreams for your child's higher education.


Higher education costs may be rising at a fast clip, but Delhi-based Balbir Kaur is not perturbed by the projections of future costs. Balbir and her husband Puneet are saving for their son Jivvraj's higher education. They started small last year with SIPs totalling Rs 5,000 in three mid-cap equity funds.

If they continue with that amount and their funds earn 12% a year, the couple would have roughly Rs 20 lakh by the time 4-year-old Jivvraj is ready for college in 2029. But Balbir has a neat strategy in place. "From this year, I have increased my SIP amount to Rs 10,000 a month. We plan to keep increasing this every year as our income goes up," she says. If they hike the SIP amount by 20% every year, they will accumulate over Rs 1 crore in 13 years.

The benefits of an early start cannot be stressed enough when you are saving for a long-term goal. If your child is 3-4 years old, you have a good 13-14 years to save. Starting early helps you amass larger sums that may not be possible later in life. Tanwir Alam, MD, Fincart, points out, "The multiplier effect in the power of compounding comes from the investing time horizon; longer time horizons have a higher multiplier effect."
Starting early also put lesser burden on your finances because it requires a smaller outflow. For instance, if your target is Rs 25 lakh, you need to save only Rs 5,004 a month if you start now. But if you wait for six years, you will have to invest Rs 9,195 a month to reach the target. Wait for three more years and the required amount jumps to Rs 23,875. Worse, you may not be able to invest in certain assets if the time horizon is too short. "If you delay investing, not only do you have to invest a higher amount every month, but it also reduces your ability to take risks," says Vidya Bala, Head-Mutual Fund Research, FundsIndia.


The investment strategy changes if your child is a little older. Since you have only 5-9 years to save, the risk will have to be lowered. The ideal asset mix at this stage is 50% in stocks and 50% in debt. Instead of equity funds that invest the entire corpus in stocks, go for balanced funds that invest in a mix of stocks and bonds.
If your risk appetite is lower, monthly income plans (MIPs) from mutual funds can be a good alternative. These funds put only 15-20% of their corpus in equities and are therefore less volatile than equity or balanced funds. However, the returns are also lower than those of equity funds. In the past five years, equity funds have delivered compounded annual returns of almost 12%, while balanced funds have given 10.5% and MIPs have given around 8.85%. Investors should also note that the returns from equity and balanced funds are tax free after a year, while the gains from MIPs are taxed at 20% after indexation benefit.

For the debt portion, start a recurring deposit that would mature around the time your child is scheduled to apply for college. If you are in the highest 30% tax bracket, avoid recurring deposits and start an SIP in a short-term debt fund. These funds will give nearly the same returns as fixed deposits but are more tax efficient if the holding period is over three years.
It is also important to review the progress of your investment plan. "You should check every year if you need to step up your contribution towards the higher education kitty," says Bala. "At times, you may put in a lump sum investment even if you have a SIP running." Keep monitoring the cost of education on a yearly basis and accordingly adjust your investment requirement.

For parents of teenaged children, the investment strategy should focus on capital protection. With the goal barely 1-4 years away, you cannot afford to take risks with the money accumulated for your child's education. The equity exposure at this stage should not be more than 10-15%. Kolkata-based Sanat Bharadwaj started investing in a mix of mutual funds and bank deposits for his son Siddhant's college education almost 12 years ago. But now that the goal is just one year away, he has shifted 75% of the corpus to the safety of a bank deposit.
This shift from growth to capital protection is critical. The 3-4 percentage points that equity investments can potentially give is not worth the risk. A sudden downturn in the equity markets can reduce your corpus by 5-6% and upset your plans. "As you come closer to your target, you should stop SIPs in equity funds and shift to a short-term debt fund," says Kalpesh Ashar, CFP, Full Circle Financial Planners & Advisors.

As mentioned earlier, the cost of higher education is shooting up. Many parents who started late or chose the wrong investment vehicles may find themselves woefully short of the target. If you face a shortfall, don't be tempted to dip into your retirement corpus to fill the gap. This is a mistake. "Your retirement should be given priority over your kids' education," says Rohit Shah, CEO of Getting You Rich. Instead, you should take an education loan with the child as a co-borrower.
Apart from keeping your retirement savings intact, it will inculcate a savings discipline in your child after she takes up a job. The repayment starts after a 6-12 month moratorium when she completes her education. Banks offer loans of up to Rs 20 lakh for courses in Indian institutes. If your child is keen on a foreign degree, it would require a larger corpus. While banks are willing to lend up to Rs 1.5 crore for foreign courses, they insist on part funding in the form of scholarship or assistance.


When saving for your child's education, do remember that the whole fianncial plan depends on regular contributions by you. But what if something untoward happens to you? The entire plan can crash. The only way to guard against this is by taking adequate life insurance. A term plan does not cost too much. For a 30-35 year old person, a cover of Rs 1 crore will cost barely Rs 10,000-12,000 per year. That is too small a price for something that safeguards your biggest dream.