GE: FINANCE FOR EVERYONE

SRCC: SEM-1
UNIT 1
DR. MUSKAN KAUR

What Is Financial Literacy?

Financial literacy refers to the ability to understand and apply different financial skills
effectively, including personal financial management, budgeting, and saving. Financial literacy
makes individuals become self-sufficient, so that financial stability can be accomplished.

Understanding Financial Literacy

Financial literacy also requires the experience of financial principles and concepts, such as
financial planning, compound interest, debt management, efficient investment strategies, and
money-time value. Financial illiteracy can lead to poor financial choices which can have
negative effects on an individual's financial well-being.

The key steps to improve financial literacy include: - Learning the skills to create a budget -
Ability to track expenses - Learning the strategies to pay off debt - Planning for retirement
effectively

Such measures can also include financial specialist counselling. Educating about finances
involves understanding how money works, developing and achieving financial goals, and
handling internal and external financial challenges.

Benefits of Financial Literacy

Financial literacy focuses on the ability to manage personal finance effectively, which requires
experience of making appropriate personal finance choices, such as savings, insurance, real
estate, college payments, budgeting, retirement and tax planning.

Those who understand finances should be able to answer questions concerning transactions,
such as whether an item is required, whether it is accessible, and whether it is an asset or a
liability.
This field illustrates a person's habits and perceptions towards money related to his or her daily
life. The financial literacy demonstrates how an adult makes financial decisions. This expertise
will help an individual build a financial road map to define their income, their expenses, and
their liabilities. This subject also affects small business owners, who contribute significantly to
economic growth and stability.

It is crucial for the realization of long-term goals—a child’s higher education, buying a house,
or establishing a business. It highlights emergency funds, retirement funds, insurance, and
estate planning. Educating one individual creates a chain reaction—creating awareness among
friends, family, colleagues, neighbors, clients, etc.

• Financial literacy refers to basic personal finance skills—to competently earn, spend,
invest, save, budget, and borrow money.
• It includes personal financial management, succession planning, investment decision-
making, and tax planning.
• Individuals can acquire financial knowledge from short-term courses on investing,
financial management, and budgeting.
• In addition, one can read books, and blogs, intern at a financial firm, and consult
financial advisors.

Financial literacy can safeguard individuals from dubious schemes. Financial decisions are an
indispensable part of everyday life; one might as well learn about them. Everyone needs basic
finance know-how—to differentiate between needs and wants. With awareness comes
planning; once individuals narrow down on a financial goal, they can start saving.

At the onset of one’s career, a person can take more risks. Different investment options cater
to a variety of needs, but the investor should be aware of them. Warren Buffet once said, “If
you buy things you do not need, soon you will have to sell things you need.”

Financial literacy opens the doors to passive income, budget creation, reduced spending
strategies, diligent investments, and credit risk minimization. Financially literate individuals
avoid monetary losses and attain financial objectives that would otherwise be impossible.
Preconceived notions of an individual are the biggest challenge—they stifle learning. People
are resistant to new ideas and opportunities, this hinders financial education.
Financial Literacy Example

Let us assume that both Jacob and Esau earn $6000 every month. Jacob is financially literate
and, therefore, allocates his salary as follows:

• Spending = $3700
• Investing in Mutual Funds = $1000
• Emergency Fund = $500
• Savings Account = $800

At the end of the year, Jacob invests $12,000 in mutual funds and $9,600 into his savings
account. On average, the total appreciation of the money in mutual funds was 13%, i.e., $1,560,
and the savings account yielded an interest of $360.

Esau, on the other hand, doesn’t have any financial knowledge and thus spends impulsively—
without any planning. He leaves the remainder in his salary account—it returns very low
interest. Consequentially, Esau spent money on unnecessary items and ran out of cash in no
time.

What does financial literacy mean?

The term denotes an individual’s proficiency in managing personal finance. It involves earning,
budgeting, spending, borrowing, saving, and investing money competently.

Why is financial literacy important?

Financial decisions are an indispensable part of everyday life; one might as well learn about
them. In addition, it helps people identify financial frauds and doesn’t get trapped in such
scams. Individuals who have financial knowledge plan for their future—strategically realize
future financial goals.
How to improve your financial literacy?
To improve financial knowledge, one must follow the following steps:
– Going through the financial magazines and newspapers.
– Undertaking short-term online courses in finance.
– Reading finance blogs.
– Consulting professional for financial advice

Scope of Financial Literacy

Financial literacy is the cognitive understanding of financial components and skills such
as budgeting, investing, borrowing, taxation, and personal financial management. The absence
of such skills is referred to as being financially illiterate.

1. Budgeting

In budgeting, there are four main uses for money that determine a budget: spending, investing,
saving, and giving away.

Creating the right balance throughout the primary uses of money allows individuals to better
allocate their income, resulting in financial security and prosperity.

In general, a budget should be composed in a way that pays off all existing debt while leaving
money aside for saving and making beneficial investments.

2. Investing

To become financially literate, an individual must learn about key components in regards to
investing. Some of the components that should be learned to ensure favorable investments are
interest rates, price levels, diversification, risk mitigation, and indexes.

Learning about crucial investment components allows individuals to make smarter financial
decisions that may result in an increased inflow of income.

3. Borrowing

In most cases, almost every individual is required to borrow money at one point in their life.
To ensure borrowing is done effectively, an understanding of interest rates, compound
interest, time value of money, payment periods, and loan structure is crucial.

If the criteria above are understood sufficiently, an individual’s financial literacy will increase,
which will provide practical borrowing guidelines and reduce long-term financial stress.

4. Taxation

Gaining knowledge about the different forms of taxation and how they impact an individual’s
net income is crucial for obtaining financial literacy. Whether it be employment, investment,
rental, inheritance, or unexpected, each source of income is taxed differently.

Awareness of the different income tax rates permits economic stability and increases financial
performance through income management.
5. Personal Financial Management

The most important criteria, personal financial management, includes an entire mix of all of
the components listed above.

Financial security is ensured by balancing the mix of financial components above to solidify
and increase investments and savings while reducing borrowing and debt.

Achieving an in-depth knowledge of the financial components discussed above guarantees an

increase in an individual’s financial literacy.

Some of the basics of financial literacy and its practical application in everyday life
include banking, budgeting, handling debt and credit, and investing.

Pre-requisites of Financial Literacy: Level of education, Numerical and communication ability

[Link]
and-communication-ability/

The role of Various financial institutions in Financial Literacy:

BANKS

That said, the role of banks in promoting financial literacy and enhancing savings culture
cannot be emphasized enough.

Since their inception, commercial banks have directly or indirectly promoted savings by
providing a range of deposit products and mechanisms with varying combinations of liquidity
and rate of interest tailored to needs and preferences of different depositors. The additional
benefit of security from theft and damage, and in some cases robust insurance coverage has
also been contributive.

As a store of value, bank deposits enjoy certain advantages over tangible assets; deposits are
convenient to hold as store of value and are safer and more liquid – they can be converted into
cash easily. They are also greatly divisible and often less risky.

However, despite these challenges, the extent of unbanked population, level of financial
literacy and consequently savings rate are still far from optimum. For financial institutions to
truly help consumers achieve financial health, most experts believe that they must think of
finance as a utility, a service that is continually available to support people‘s moment-by-
moment needs, not isolated tools focused on macro decisions.

Many consumers are looking for tools or educational programs to increase financial wellness.
They are asking for help in understanding complicated financial products. Accordingly, banks
could consider offering awareness programs and targeted seminars.

Another key aspect pertinent to the role of banks is to ensure the availability of robust and user-
friendly tools that facilitate financial literacy and savings. Unfortunately, most of the slick
digital budgeting apps many institutions offer have limited functionality. Consumers need tools
that go beyond just helping with life events – such as a mortgage calculator – but are integrated
into customers’ day-to-day lives.

There is a great deal of interest among policymakers and financial services about the potential
of FinTech to help savers. Possibilities include the use of machine learning to help people
budget, understand their spending and spot saving opportunities, or enabling people to ‘impulse
save’ by moving unspent money into savings. Further research is required to develop the right
tools for people and their various needs.
Tailoring financial literacy
Banks should be mindful of the sheer diversity of the general population, including their saving
attitudes and preferences. A one-size-fits-all approach has always been counterintuitive. For
example, for a low-income household, there is a myriad range of challenges competing for time
and attention, including the everyday problem of managing income-consumption timing
mismatches.

Over the long-term, there is the problem of building sufficient reserves to meet lifecycle goals
such as education, housing, and marriage. For short-term consumption, liquidity is essential,
so a regular bank account would suffice. For medium-term building of lump sums, a balance
of liquidity and inflation protection is required; an account (such as a money market fund) that
tracks inflation and has reasonable liquidity should do the trick.

Further, for long-term retirement savings, significant real returns and illiquidity are the
cornerstones of the mechanism. Therefore, it’s critical for banks to consider, analyze, and
address the preferences and needs of the public with catered advice, products, and tools that
ensure a robust eco-system of savings and expenditure.

In contrast, for much of the urban mid-earning population, banks are required to devise and
apply significantly different saving methodologies and strategies. Two of these are represented
by ‘auto-save behaviors’ and ‘reframing savings for non-savers.’

The former focuses on making savings a ‘default’ behavior. Research has shown that, when
borrowers opted in to making savings payments alongside a loan repayment, many continued
to save after the loan was repaid because the regular saving payment did not stop. This is known
as ‘auto-saving’ and therefore it is pertinent to understand what other opportunities exist for
people auto-save (for example, integrating rainy day savings with auto-enrollment pensions,
allowing people to access some of their stash in emergencies) and to determine when and why
people keep their auto-save payments going.

The latter represents reframing the rewards of saving so they are more easily understood and
acknowledged by the public. There is evidence that matched savings schemes (e.g., a scheme
which presents returns as a quantified amount for every unit of currency, rather than a
percentage interest rate) have a positive impact on savings behavior. Prize-linked schemes
show some evidence of promise, but none that demonstrates a clear causal link to improved
saving.

The millennial generation seems to be more cautious with their finances and savings than most
people might think, it is up to the new age financial institutions, especially FinTech entities, to
continue enhancing their product and solution base, digital offerings, and customer empathy.
Not only to significantly enhance the banked population levels but also a financially literate
and savings conscious society.

Insurance companies

The Insurance Industry and Financial Education

The insurance industry is facing a number of new challenges. With worldwide deregulation,
new and non-traditional providers are entering the insurance market. The increased
competition brings with it pressures to become more specialized and to focus on those activities
in which there is a competitive advantage. At the same time, this deregulation is being offset
by increasing controls over the delivery and sale of products to consumers. These new
regulations are supported by new consumer protection legislation, which is often focused on
how an insurer interacts with its agents and its customers. And new opportunities are opening
to insurance providers as governments begin to scale back the state-provided benefits in
response to the strain that aging populations and increased life expectancy put on state pension
systems. These new opportunities might result in the future in a switch from traditional life
insurance products, which still dominate many markets, to wealth management products that
offer consumers a wider investment choice.
In addition to deciding among providers of insurance products, consumers must also choose
among a wide variety of different insurance products. There is term life insurance, which offers
coverage for a limited amount of time, as well as universal life insurance, which is tax-sheltered
and contains flexible investment options. There is also disability insurance, critical illness
insurance, and long-term care insurance, as well as health insurance, home or apartment
insurance and automobile insurance. If the individual has a small business, he also needs to
think about property insurance, liability insurance, and workers’ compensation insurance.
Given the various insurance products offered, the consumer needs to be able to determine if he
needs insurance, what type of insurance he needs, and how much insurance he needs.
Financial education can play an important role in helping consumers make appropriate choices
with respect to insurance. A discussion of insurance terms and descriptions of the features of
different types of insurance can enable the consumer to determine which insurance products
are appropriate for his or her individual situation. Information on “tips and traps” can help the
consumer to evaluate the various insurance products offered and to select the best provider of
these insurance products. Such knowledge is especially important in light of the entry of new
providers into the market and the development of new and increasingly complex insurance
products, as discussed above.
Preliminary results from a questionnaire on financial education sent to OECD member
countries indicates that making consumers aware of insurance issues and providing them with
a better basic understanding of insurance issues are important goals of financial education in a
number of countries. As one delegate put it, an important issue for financial education is that
consumers “be able to understand and evaluate insurance products and have an opinion of
which insurance policies are more or less important for their personal use.” The protection of
the rights of insurance policyholders is also an important issue for a number of countries.

Post Offices

[Link]
Mobile App based services

[Link]

Concept of economic wants and means for satisfying the needs

[Link]
[Link]#:~:text=Wants%20are%20the%20means%20by,of%20their%20needs%20and%20
wants.

Balancing between economic wants and resources

[Link]
wants-is-essential-for-wealth-creation-2619774
Financial Planning

Definition of Financial Planning

Financial Planning is the process of estimating the capital required and determining it’s
competition. It is the process of framing financial policies in relation to procurement,
investment and administration of funds of an enterprise.

A financial plan is a roadmap that helps you achieve your goals. Financial planning can be
done on your own or with a professional.

A financial plan paints a comprehensive picture of your current finances, your financial goals
and any strategies you've set to achieve those goals. Good financial planning should include
details about your cash flow, savings, debt, investments, insurance and any other elements of
your financial life.

What is financial planning?

Financial planning is an ongoing process that can reduce your stress about money, support your
current needs and help you build a nest egg for your long-term goals, like retirement.
Creating a financial plan is important because it allows you to make the most of your assets,
helps ensure you meet your future goals and gives you the confidence to weather any bumps
along the way.
You can make a financial plan yourself or get help from a financial planning professional.
Online services like robo-advisors have also made getting assistance with financial planning
more affordable and accessible than ever.
Financial planning in 7 steps
1. Set financial goals
A good financial plan is guided by your financial goals. If you approach your financial planning
from the standpoint of what your money can do for you — whether that's buying a house or
helping you retire early — you'll make saving feel more intentional.
Make your financial goals inspirational. Ask yourself: What do I want my life to look like in
five years? What about in 10 and 20 years? Do I want to own a car, or a house? Do I want to
be debt-free? Pay off my student loans? Are kids in the picture? How do I imagine my life in
retirement?
Having concrete goals can make it easier to identify and complete the next steps, and provide
a guiding light as you work to make those aims a reality.
2. Track your money
Get a sense of your monthly cash flow — what’s coming in and what’s going out. An accurate
picture is key to creating a financial plan and can reveal ways to direct more to savings or debt
pay-down. Seeing where your money goes can help you develop immediate, medium-term and
long-term plans.
For example, developing a budget is a typical immediate plan. NerdWallet recommends the
50/30/20 budget principles: Put 50% of your take-home pay toward needs (housing, utilities,
transportation and other recurring payments), 30% toward wants (dining out, clothing,
entertainment) and 20% toward savings and debt repayment. Reducing credit card or other
high-interest debt is a common medium-term plan, and planning for retirement is a typical
long-term plan.
» Need a jump start? Try this easy-to-use budget worksheet.
3. Get your employer match
If you visit a financial advisor, they will be sure to ask: Do you have an employer-sponsored
retirement plan like a 401(k), and does your employer match any part of your contribution?
True, 401(k) contributions decrease your take-home pay now, but it’s worth it to put in enough
to get the full matching amount because that match is free money. Here's how much you should
contribute to a 401(k).
4. Plan for emergencies
The bedrock of any financial plan is putting cash away for emergency expenses. You can start
small — $500 is enough to cover small emergencies and repairs so that an unexpected bill
doesn’t run up credit card debt. Your next goal could be $1,000, then one month’s basic living
expenses, and so on.
Building credit is another way to shock-proof your budget. Good credit gives you options when
you need them, like the ability to get a decent rate on a car loan. It can also boost your budget
by getting you cheaper rates on insurance and letting you skip utility deposits.
5. Tackle high-interest debt
A crucial step in any financial plan: Pay down “toxic” high-interest debt, such as credit card
balances, payday loans, title loans and rent-to-own payments. Interest rates on some of these
may be so high that you end up repaying two or three times what you borrowed.
If you’re struggling with revolving debt, a debt consolidation loan or debt management plan
may help you wrap several expenses into one monthly bill at a lower interest rate.
6. Invest to build your savings
Investing sounds like something for rich people or for when you’re established in your career
and family life. It’s not.
Investing can be as simple as putting money in a 401(k) and as frictionless as opening a
brokerage account (many have no minimum to get started). Financial plans use a variety of
tools to invest for retirement, a house or college:
• Employer-sponsored retirement plans. If you have a 401(k), 403(b) or similar plan,
gradually expand your contributions toward the IRS limit of $20,500 per year in 2022.
If you’re 50 or older, the limit goes up to $27,000.
• Traditional or Roth IRA. These tax-advantaged investment accounts can further build
retirement savings by up to $6,000 a year in 2022 (or $7,000, if you are over 50). This
NerdWallet IRA guide can help you choose the right type of IRA and show you how to
open an account.
• 529 college savings plans. These state-sponsored plans provide tax-free investment
growth and withdrawals for qualified education expenses.
7. Protect and grow your financial well-being
With each of these steps, you're building a moat to protect yourself and your family from
financial setbacks. As your career progresses, continue to improve your financial moat by:
• Increasing contributions to your retirement accounts.
• Padding your emergency fund until you have three to six months of essential living
expenses.
• Using insurance to protect your financial stability, so a car crash or illness doesn’t derail
you. Life insurance protects loved ones who depend on your income. Term life
insurance, covering 10-year to 30-year periods, is a good fit for most people’s needs.

Why is financial planning important?

Financial planning can help you feel more confident about navigating bumps in the road —
like, say, a recession or historic inflation. According to Charles Schwab's 2021 Modern Wealth
Survey, Americans who have a written financial plan maintain healthier saving and investing
habits, with a higher percentage of those with a plan having a three-month emergency fund
compared with those without a plan.
Once your basic needs and short-term goals have been addressed, a financial plan can also help
you tackle big-picture goals. Thoughtful investing, for example, can help build generational
wealth, and careful estate planning can ensure that wealth gets passed down to your loved ones.
Budgeting is done by individuals, families, groups, companies, and the government—to plan,
monitor, and control finances. It is everywhere; homemakers use it to manage their
monthly expenses and savings; the government relies on it to run the nation.
Anticipated revenue and estimated expenditure are the two crucial components. Anticipated
revenue is the potential cash inflow that a person, business entity, or government might
generate. On the other hand, estimated expenditure is the cash outflow that an individual, firm,
or government expects to make in the upcoming period.

Personal Budget, Family Budget, Business Budget

[Link]
What is an example of a personal budget?

The 50/30/20 budget is a simple plan that sorts personal expenses into three categories: "needs"
(basic necessities), "wants", and savings. 50% of one's net income then goes towards needs,
30% towards wants, and 20% towards savings.

What Is A Personal Budget?

Much like a business must develop a budget to ensure it’s spending money efficiently and not
spending more than it can afford, individuals who want to monitor their finances and ensure
they’re spending responsibly must develop their own, personal budget.
A personal budget, or household budget, simply tracks a household’s money in versus money
out. Though a budget can be used to help an individual or family spend less and save more, it
is, at its most basic, a planning and tracking tool.
Budgeting is all about being intentional with the ways you spend money, and planning ahead
to help ensure you don’t run into any inconvenient – or, potentially, financially ruinous –
surprises before you receive your next paycheck. This planning ahead also means you can save
money for future goals and figure out exactly how long it will take you to reach them.
A budget also helps you be more confident in spending money on the things you want, but
don’t necessarily need. Instead of feeling guilty or worrying that the cost of something will
have you eating ramen for the rest of the month, you’ll know exactly how much you can spend
without having to take away from other, more vital areas.
FAMILY BUDGET

A family budget is a statement which shows how family income is spent on various items of
expenditure on necessaries, comforts, luxuries, and other cultural wants. It shows the
distribution of the family income over the various items of expenditure.

Engles’ Law of Family Expenditure:

Ernest Engels was a Prussian official. He studied a number of family budgets and arrived at
certain conclusions. These conclusions have been given the name of Engels’ Law of
Consumption.

They are:
1. As income increases, the percentage expenditure on necessaries of life decreases, and vice
versa.

2. Percentage expenditure on luxuries and other cultural and recreational wants increases with
an increase in income and decreases when income decreases.

3. As for lodging or rent, fuel and light, percentage expenditure is generally the same for all
incomes.

4. Whatever the income, percentage outlay on clothing is practically the same.

It should be carefully noted that it is percentage increase or decrease in expenditure which is

mentioned and not the total amount of expenditure. A rich man, certainly spends a larger sum
on food and other necessaries of life but the percentage expenditure’ on hood, etc., is certainly
less. This law was enunciated in Europe but it has got a universal application. It applies to India
also. Family budgets have been studied in almost all States of India. All these studies amply
bear our Engels’ conclusions.

The percentages of expenditure may slightly vary, but these conclusions broadly hold good. A
very large percentage of the small incomes go into the purchase of the bare necessaries of life,
whereas people with large incomes spend a small percentage of their income on such things.
In the case of luxuries, the case is quite the opposite.

BUSINESS BUDGET
Budgeting projects anticipated revenue and expenditures for a future period based on
prevailing internal and external factors. A detailed statement of projected financial result is
prepared by considering inputs from various levels.

It is a health check for the organization—it is essential for avoiding cash crunch or losses. The
changes in incomes and expenditures are brought out by labor laws, inflation, market growth,
and economic downturns. Budgeting is done by top-level management in the top-down
approach; other levels implement it. In the bottom-up approach, inputs from various levels are
sent to top management.

• Budgeting is a systematic approach, that predicts revenues and expenditures of an

individual, family, group, business entity, or government. A realistic report helps
businesses trace their financial performance. This is crucial for decision-making.
• They are classified into personal, corporate, government, static, flexible, master,
operating, cash, financial, and labor subtypes.
• Incremental, zero-based, activity-based, participative, negotiated, and value proposition
are different methods of budgeting.

It can be approached top-down or bottom-up. In the top-down approach, top-level

management estimates costs and gradually moves down levels. Ultimately, the top
management prepares the breakdown of spending and passes it down for implementation. In
contrast, in the bottom-up approach, managers prepare department-wise reports based on team
inputs and past experiences. They then send it to top management for approval.

Personal Budget: An individual or family plans their monthly earnings and expenses to ensure
that they don’t run out of cash before the next pay check.

• Corporate Budget: It is a plan to maintain cash flow, operating cash, and emergency
funds efficiently. It comprises sales, material, production, and factory overheads.
• Government Budget: A financial plan prepared by the federal government accounts for
the estimated national revenue for a particular financial or fiscal year. The revenue
comes from taxes, fees, and grants. It also considers the anticipated expenditure over
public services and infrastructure. There are two types of federal budgets—capital and
revenue.
• Master Budget: It is a culmination of various lower-level budgets prepared for different
areas of business operations. It is a consolidated business plan.
• Operating Budget: It is created at the beginning of a given period. It reflects the profit
and loss accounting—accounts for fixed, non-operating, variable, and capital
expenditures.
• Static Budget: It is mostly formulated by the government and non-profit organizations.
It is rigid and does not allow variations depending on the activity of the institution. It is
a prediction of revenue and expenses—based on anticipated values. The actual results
may vary from the predicted values.
• Flexible Budget: It is a realistic approach adopted by businesses. A flexible plan
considers changes in expenses and costs over the period and adjusts accordingly.
• Financial Budget: It incorporates assets, liabilities, and shareholders equity. It charts a
company’s short-term and long-term financial goals.
• Cash Budget: It is simply a cash flow prepared in advance. It documents anticipated
payables and receivables for an upcoming period. It is prepared to ensure that the
business has enough money to run the organization effortlessly.
• Labor Budget: It is tailor-made for labor-intensive firms. Businesses that are heavily
reliant on employees need a systematic plan balancing revenue and wages.

Budgeting Methods

Different methods of preparing financial plans are as follows.

#1 – Incremental Budgeting

It is a traditional method; the manager takes the previous period’s budget as a benchmark.
Further, the anticipated percentage change is either summed up or deducted to formulate the
current budget. It includes adjustment for inflation, overall market growth, and other relevant
factors.

#2 – Zero-based Budgeting (ZBB)

In this method, all the figures are reset to zero, and the manager begins with a fresh
interpretation of all the items. The manager has to justify every new number with reasoning, in
contrast to using figures from the previous accounting period. ZBB eradicates traditional
expenditures that are no longer required. It is a strategic top-down approach re-evaluating every
detail and decision.
#3 – Activity-based Budgeting

Operations or activities that generate cost to the business are identified. Ways of reducing costs
are strategized. It is mostly used in mature organizations.

#4 – Participative Budgeting

Top-level executives often take the help of the managers and workers of different departments
in designing the financial plan. It is a bottom-up approach.

#5 – Negotiated Budgeting

It has both top-down and bottom-up traits. Managers and employees together frame the
financial plan, keeping in mind goals and targets—set by top-level management.

#6 – Value Proposition Budgeting

As the name suggests, every cost is re-evaluated and justified based on its impact. Unnecessary
expenses are eliminated.

Budgeting Process

Given below are the seven steps of financial planning.

1. First, ascertain the goal of financial planning.

2. Next, interpret and compare historical data of revenues and expenses.
3. Then, devise a rough budget to direct the actions towards the objective.
4. Further, refine the findings to chalk down a final budget.
5. Prepare and submit a budget report.
6. Review the financial plan from time to time—detect loopholes.
7. Track the performance, taking the necessary corrective measures if required.

Example of Budgeting

The management of ABC Ltd. sets a new target for the sales team to sell 12000 units at a lower
price for the year to increase the organization’s overall profitability. But the production unit
cannot make 12000 units in a year. This could potentially cause frequent clashes between sales
and production departments. If inputs from the production unit were considered in financial
planning this problem could have been prevented.
On the other hand, if the sales team had achieved the target, sales personnel would expect a
raise or incentive for their performance. However, due to lower production, incentives were
not delivered. The management may have to spend more on wages without an increase in
revenue. This is why companies need master budgets, integrating different departments.

Importance

Let us assume Ryan goes to a departmental store and picks a lot of stuff. At the billing counter,
he realizes that he does not have enough cash. He ends up unloading items from his cart. This
is where financial planning plays a role—saving people from potential embarrassment.
Let us look at some of its other benefits:

• Helps Attain Short and Long-term Goals: The financial planner can prepare for the
future by foretelling the revenue and expenditure to achieve the desired objectives
effectively.
• Decision-making: Business decisions are not taken blindly; they are based on proper
research and planning.
• Avoid Cash Crunch: A person, firm, or government that efficiently plans and executes
a financial plan can avoid financial crisis.
NATIONAL BUDGET
Budgeting is the process of estimating revenue and expenses during a specific period of time.
A national budget is the budget of a country. The government gets money from taxes and fees,
and spends it on things like national defense, infrastructure, grants for research, education, and
the arts, and social programs such as Social Security and Medicare.

History
The federal budget started small, as our government was small, and provided only a rather
nominal level of services, such as mail delivery and a limited national defense. However, the
16th Amendment authorized a national income tax in 1913, which allowed the federal
government to tap a new revenue source and expand the services it provided to its citizens.
[Link]
Various factors such as uplifting underprivileged sections of the society, facilitating financial
inclusion, mitigating regional disparity, upgrading defence capabilities, providing proper
educational facilities, and much more need to be focused on. Therefore, a well-planned budget
is of utmost importance for any government to ensure economic stability and growth.
The 6 step financial planning process

The financial planning process involves six key steps that must be followed. These six steps
act as a roadmap in the personal financial planning process.

Step 1: Evaluate your current financial situation -

Before you begin your long term financial planning process, you need to evaluate your current
financial situation. Doing so will help you understand where you should begin.

Step 2: Determine your risk profile -

Every person has a different risk profile. Some people are very comfortable with taking risks,
while others are not so much. Understanding your affinity for risk-taking will help determine
what your investment portfolio should look like, as well as how much debt you are willing to
take on.
Step 3: Set financial goals -

Once you evaluate your current financial situation and determine your risk profile, you can
finally start setting your financial goals. You need to make sure these goals are realistic and
honest. These goals can be broken into -

a. Short-term goals: These include creating a monthly budget, paying off your credit card,
creating an emergency fund, etc.

b. Medium-term goals: These goals include saving for your marriage, buying a new car,
building an investment portfolio, etc.

c. Long term goals: Long term goals include things like buying your own house, saving enough
money to retire, etc

On Fi, you can invest in commission-free Mutual Funds

Step 4: Have a contingency -

While having a financial plan is a great step in the right direction, it is not without its set of
challenges. Things may not always go according to plan. You may have to shell out a lot of
money on a new vehicle if your car breaks down. You may lose your job. It is advisable to
have 6 - 12 months' worth of expenses saved in an emergency fund in situations like this. These
savings will give you enough time to get back on your feet. If you do need to use money from
your emergency fund, you should replenish it whenever possible.

Step 5: Implement your financial plan -

The penultimate step to your financial plan is to implement it. It is one thing to conjure up
financial planning process steps. Following through with this plan is where a lot of people tend
to fail. Being diligent and disciplined with your money is crucial for financial freedom in the
long term.

Step 6: Review and revise -

There is still one last step to follow once you’ve put your plan into action. It is important to
recognise that the socio-economic environment changes as time goes on. What may have been
a sound investment yesterday may become null tomorrow. Your standard of living might
change as you age. Factors like these make it important to revisit your financial plan and review
it periodically. If you feel the need to revise a previous strategy, go ahead and make the
necessary changes.

In a nutshell

Financial freedom doesn’t mean being able to splurge on goods and services you don’t need.
It means having the ability to enjoy your life while maintaining a reasonable standard of living.
It’s true that money cannot buy you happiness. However, a lack of money can become an
obstacle in the way of your happiness. Make the smart decision and start building a financial
plan today.
. What are the six steps in the financial planning process?

Step 1: Evaluating and determining your current financial situation

Step 2: Evaluating and determining your risk profile

Step 3: Evaluate and determine your short, medium, and long-term financial goals.

Step 4: Setting up a backup fund in case of an emergency

Step 5: Executing your financial plan

Step 6: Periodically review your current plan and make necessary revisions. (If applicable)

2. What is financial planning and its process?

Financial planning is the act of creating a vision for your financial future and following through
on it. The financial planning process is evaluating your net worth and risk profile, setting short
to long-term financial goals, and revising your goals overtime if necessary. It also involves
strategies on how to retire without having to worry about finances and securing your family’s
future.

3. What is the first stage of the financial life cycle?

The first stage in the financial life cycle is the accumulation of wealth over time. This is the
stage where you just begin working and are early in your career. In this stage, you do not
generally have any family or friends that depend on you to work. People in this stage of the
financial life cycle may or may not have outstanding debt.

This stage is where you should try to pay off your debt and start planning for your financial
future. It is wise to start saving and investing as early as possible.

4. What are the stages of the financial life cycle?

The financial life cycle has four stages.

Stage 1: Early career - Begin accumulating wealth and paying off debts

Stage 2: Mid-career - Managing wealth and investing

Stage 3: Late career - Retirement planning

Stage 4: Retirement- Planning your wealth distribution and family security

BUDGET TYPES
IMPORTANCE & AVENUES OF INVESTING MONEY

Why should you invest money?

Some people rely on saving rather than investing. However, in a dynamic world, savings my
not be adequate to guarantee continued financial security. Idle money in lockers or even in a
bank account may not serve the purpose. Investments could help beat inflation through capital
appreciation. The power of compounding also assists in wealth creation. Investing is further
helpful in meeting future goals such as purchasing a house, going on a foreign vacation, or
planning your retirement.

Avenues of investing money in India

There are multiple investment options to choose from in India:

1. Fixed Deposits
Fixed deposits are regarded as one of the most popular investments in India. They provide a
fixed rate of return for a specific period and considered as a low-risk option.

Banks offer FDs. The interest rate varies from one deposit to another and changes from time to
time. Although FDs have a lock-in period, most financial institutions permit loans and overdraft
facilities against them.

2. Mutual Funds
When you invest in mutual funds, you invest in a vehicle that pools money from different
investors and channels this into diversified assets. Mutual fund schemes vary depending on the
type of assets they focus on – equity funds invest in stocks, debt funds invest in fixed-income
instruments, and hybrid funds invest in both. Investors can make a lumpsum investment or
direct a certain sum periodically through Systematic Investment Plans (SIPs). The returns you
receive could depend on the fund’s performance.

3. Recurring Deposits
Like FDs, Recurring Deposits (RDs) allow an investor to save a specific sum in periodic
instalments. You can deposit a fixed sum every month for a specific period with a bank. Like
FDs, RDs are also low-risk and provide guaranteed returns.

4. Public Provident Fund

The PPF is a long-term savings scheme backed by the Government of India with a lock-in
period of 15 years. However, PPF investments are eligible for tax deductions and are also
relatively safe. The government usually revises the PPF interest rate every quarter. Investors
are also eligible for partial withdrawals and loans against the PPF upon meeting certain
conditions.

5. Employee Provident Fund

The EPF is a retirement savings scheme specifically for salaried employees. Monthly
contributions are made from an employee’s salary, while the employer contributes an
equivalent amount to the corpus. EPFs are eligible for a tax deduction under Section 80C of
the Income Tax Act, 1961 and the final amount after maturity is tax-free.
6. National Pension Scheme
NPS is a retirement pension scheme introduced by the Government of India. Through regular
investments, you can build a corpus that can provide you with a regular pension after
retirement. Investors can also withdraw from the fund partially after retirement.

[Link]
Stocks refer to purchasing shares in a company, giving the investor ownership stake. It can be
profitable when the company grows in future. Investing in stocks for the long-term aids in
capital appreciation. Short-term trading, however, can be riskier.

Where to invest money?

There is no one-size-fits-all investment plan. For each investor, the ideal portfolio will depend
on several variable factors like age, investment horizon, goals, and risk capacity.

When you are young, your risk-taking capacity could be higher. Therefore, investing in equities
and mutual funds can be a good option. Older investors can afford fewer risks and hence, one
could invest in safer vehicles like fixed deposits.

Shorter investment horizons reduce risk-taking ability, making low risk instruments a better
bet. Longer time horizons allow greater flexibility to invest in equities and wait for returns.
The type of goal also plays a role because non-negotiable goals such as education need more
cautious investing.

Certain other factors like one’s disposable income, debt profile, and dependent responsibilities
can also impact the investor’s investment decisions.

How to invest money?

The first step to investment is to create a plan. Work out distinct investment goals; identify
their timelines, and your risk ability. Scout avenues that can help you achieve these goals.
Ensure you undertake adequate research before investing. Also, diversify your investments to
spread out risks, consider the tax implications of investments and schedule periodic reviews.

• Retirement.
• Investment. Equity. Debt. Mutual Funds. Real Estate. Commodities.
• Expenses. Health. Education. Inflation. Credit Cards.
• Savings. Banking. Non Banking.
• Tax.
• Insurance.
• Tech & Toys. Fintech. Apps. Gadgets. Cars and Bikes.

What is a Fiscal Deficit?

The fiscal deficit is the difference between the government’s total expenditure and its total
receipts (excluding borrowing). A fiscal deficit occurs when this expenditure exceeds the
revenue generated.
 • Fiscal deficit is when a government’s total expenditures exceed the revenue that it
generates (excluding money from borrowings).
• The deficit does not mean debt, which is an addition of annual deficits.
What is the Formula of Fiscal Deficit?
Fiscal Deficit = Total Expenditure (Revenue Expenditure + Capital Expenditure) – (Revenue
Receipts + Recoveries of Loans + Other Capital Receipts (all Revenue and Capital Receipts
except loans taken))

• Gross Fiscal Deficit (GFD) of the government is the surplus of its total expenditure,
current and capital, as well as loans net of recovery, above revenue receipts (including
external grants) and non-debt capital receipts.
• A fiscal deficit happens because of events like a major increase in capital expenditure
or due to revenue deficit.
o Capital expenditure is incurred to create long-term assets like buildings,
factories, infrastructure development, etc.
• Fiscal deficit serves as an indicator of how well the government is managing its
finances.
• A recurring high fiscal deficit implies that the government has been spending beyond
its means.
• However, the fiscal deficit is seen in almost every economy while the fiscal surplus is
quite rare. The high fiscal deficit is not always a negative thing if the amount is utilised
for constructing roads, airports, infrastructure, etc. since these will generate revenue in
the long run.
• Fiscal Consolidation refers to the policies undertaken by governments (national and
sub-national levels) to reduce their deficits and accumulation of debt stock. Read all
about fiscal consolidation in the linked article.

Fiscal Deficit Calculation

Fiscal deficit is arrived at by calculating the difference between the total expenditures incurred
by the government in a fiscal year and the total revenue obtained by it.
Fiscal deficit = Total Expenditure – Total Revenue (excluding the borrowings)
The fiscal deficit is usually expressed as a percentage of GDP.

Components of Fiscal Deficit

The two components of the fiscal deficit are income and expenditure.

1. Income: the total income generated by the government can be divided into:
1. Tax revenue: GST, customs duties, corporate tax, etc.
2. Non-tax revenue: dividends and profits, interest receipts, etc.
2. Expenditure: this includes capital expenditure, revenue expenditure, grants for capital
assets creation, interest payments, etc.

Learn about taxation in India in the linked article.

How is Fiscal Deficit Financed?
 There are two sources to finance the fiscal deficit. They are:

1. Borrowings: internally from a commercial bank, or from external sources like the IMF,
other governments, etc.
2. Deficit financing (that is, printing new currency): borrowing funds from RBI against its
securities (so, RBI prints new currency).

The government meets the fiscal deficit by borrowing so, it can be said that the total borrowing
requirements of a government in a year is equal to the fiscal deficit of that year.

India’s Fiscal Policy Framework

Here are some interesting facts about India’s fiscal policy agenda:

• The Indian Constitution has provided directives for the formation of a Finance
Commission (FC) every five years.
• This is to provide the basis for the assignment of some of the centre’s revenues to the
state governments and provide medium-term direction on fiscal matters, as the taxing
capacity of the states are not necessarily proportionate with their spending
responsibilities.
• The Union Budget where the government shall put before the Parliament an account of
its proposed taxing and spending provisions for legislative debate and approval is also
an important part of fiscal policy.
• The Fiscal Responsibility and Budget Management Act (FRBM) 2003 is an Act
concerned with fiscal discipline.
Read more on the Fiscal Policy of India.

Difference between Fiscal Deficit and Revenue Deficit

Fiscal Deficit Revenue Deficit

It is the excess of Budget Expenditure over It is the excess of Revenue Expenditure over
Budget Receipt other than borrowings. Revenue Receipts.

FD = Budget Expenditure – Budget Receipts RD = Revenue expenditure –Revenue receipts

(excluding borrowings)

It reflects the total government borrowings It reflects the inefficiency of the government to
during a fiscal year. reach its regular or recurring expenditure.

Is Fiscal Deficit good for economy?

Usually, any sort of deficit is a challenge to overcome but a Fiscal Deficit can be good for the
economy of the country if the money is being utilised for productive assets (construction)
which stimulate growth and employment.
How is Fiscal Deficit financed in India?
Earlier referred to as deficit financing, the Government can finance the Fiscal Deficit by
borrowing from the Reserve Bank of India in lieu of government securities. This increases the
money supply and can lead to inflation.
Another method is to borrow from the market (internal and external) but it raises the burden
on future generations who have to pay it back.
How is Fiscal Deficit Financed?
• Borrowings: internally from a commercial bank, or from external sources like the IMF,
other governments, etc.
• Deficit financing (that is, printing new currency): borrowing funds from RBI against its
securities (so, RBI prints new currency).

[Link]
implications-comparison-and-sources-of-financing-fiscal-deficit/30409