Education Planning for your Child

Education Planning for your Child

The greatest gift that a parent can give the child is good and quality education. It is one of the toughest goals to plan for due to the competitive environment and high costs involved. The process for planning of child’s education can be broken into 5 simple steps, as follows:

1] DETERMINING THE TARGET DATE:

The average age when a child is ready to pursue higher education is 21 or 22 years. If your child is 5 years old today, then the target year is 16 years away. Similarly, if you are unmarried or married but yet to have kids, you can make an estimate on when you plan to have a child and add 21 years to that. For example, if a newly married couple plans to have a child after 2 years, then the target year for the child’s higher education is 23 years away.

2] ESTIMATING THE COST OF EDUCATION TODAY:

As parents, we want to provide the best education to our children, whether it is engineering, medicine, business management or IT. While all these courses have varying fee structures depending on type of institute, location of institute (local or international) etc., let us take a ball park number of R10 lacs as today’s cost.

3] CALCULATING THE COST OF EDUCATION ON TARGET DATE:

Cost of goods and services increase over time thanks to inflation which eats into our purchasing power. This is true for education also. In India, cost of higher education has been increasing at approx. 10% p.a. An MBA degree in a non-metro location which costed R1.60 lacs in 2001 is today available at not less than R5 lacs. Therefore, to take the above example forward, the education cost on the target date will be as follows:

Cost of education after 23 years = Cost of education today x (1+Inflation rate)^No. of years to target date

= R10 lacs x ((1+10%) ^ 23)

= R89.54 lacs

The newly married couple who is expecting to start a family after 2 years will need to save approx. R89.54 lacs for their child’s higher education based on the assumptions made above. This number may increase or decrease depending on the actual circumstances.

4] ESTIMATING RETURN ON YOUR INVESTMENT PORTFOLIO:

Return is a function of the risk we are willing to take on our portfolio. An all equity portfolio has the potential to generate significantly higher returns compared to a portfolio comprising of fixed income securities. Whether a portfolio should comprise of equities or bonds or a combination of the two is a function of the risk taking ability and appetite of the investor. An investor who is comfortable with risk can look at equities but a conservative investor will have to restrict himself himself to fixed income. Over the last 20 years, the BSE Sensex has given a return 12% p.a. CAGR while bank deposits have given returns of 7.5% p.a. CAGR.

  An investor who is planning for his child’s education with a time horizon of more than 15 years should invest majority of his portfolio in equities.

5] CALCULATING THE MONTHLY SAVINGS:

We will now calculate the savings to be done on a monthly basis assuming the majority of the portfolio is invested in equities. Using the PMT function in MS Excel, this is what we get:  Education Planning for your Child

The amount of savings to be done on a monthly basis in a portfolio comprising predominantly of equities that generates a return of 12% p.a. CAGR over the next 23 years is R6,100/-. Some of us may feel that saving for the education of an unborn child sounds somewhat strange and may decide to start saving after the child is born. You decide to start saving 2 years after the child is born. Let us therefore look at the cost of delay:

Saving years

Savings / month (R)

Total Savings (R)

23

6,100

16,83,600

19

10,300

23,48,400

Cost of Delay (R) 6,64,800   As you can see above, the cost of delay is R6.64 lacs which is not a small amount for any middle class family.

POINTS TO NOTE:

• Education is getting competitive and expensive.

• If you plan to have children, start saving now. Do not wait for the child to be born to start saving. The delay can be expensive.

• Equities is the best investment option if the time horizon involved is long.

• Monthly savings is the most suitable as the amount is not very large and can be comfortably managed if expenses are well budgeted.

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