What Are You Getting Yourself Into?
The best investment is the right investment, the one that matches your goal.
Ricky and Lucia were college sweethearts in 2005, and the two believed back then that there’s such a thing called forever. Staying true to their commitment, they decided to tie the knot three years after they graduated. The couple’s firstborn just turned two in April of 2013 when I was able to sit down with them and talk about some of their future plans. Being first time parents, one primary concern they had was the security of their daughter’s college education.
So, we talked about this concern further. They mentioned that given what happened to some preneed companies in the Philippines, like CAP (College Assurance Plan) that declared in 2005 that it would no longer be able to service debt and pay future claims, the couple became skeptical on companies offering educational plans. What they did was to look among the established financial and banking institutions and inquire if they have existing products that would cater to their goal.
One institution gave them a proposal for a plan that, based on their understanding, will provide them the fund that they would need once their child enters college. They signed up and were already going into the third year of a five-year payment plan, which costs them P155,000 annually. I asked them how much the plan will pay out when their daughter reaches the age of 16. What caught my attention was that they didn’t know the exact amount they are going to get. But since the educational plan came from a well-known and established institution, they were confident that the plan would serve its purpose of paying the fees for their daughter in college.
If there were no analysis or computations done, will the plan really be sufficient when the time that it is needed comes? I asked for the copy of the plan, and, in summary, the benefits were broken down into details, such as the corresponding amount per year for every unit taken, insurance, and a total of 100 units. How much is the maximum benefit that they will get for college purposes? It turned out that the amount would be P980,000.
That being said, they would be paying a total of P775,000 for 5 five years to get that maximum benefit after 11 years. This translates to a return of less than 2.5 percent per year. A big problem here is that tuition fees are increasing at a higher pace compared to that return. In 2014 alone the average tuition fee increase in Metro Manila colleges and universities was eighth percent.
Given these facts, Ricky became frustrated with the institution that offered the plan. When the couple tried to confirm these findings, he got more upset when the institution admitted that these details were correct. The company, however, offered the couple a different product that yields a better return if they wish to terminate their existing contract.
It was not just the institution that was partly at fault by its failure to paint the whole picture to be able to meet their clients’ needs. The spouses were not completely informed about the plan that they bought. This lack of knowledge on how some financial products and investment vehicles work is sometimes the root cause of a customer’s frustration.
Upon hearing the couple’s concerns, the institution prepared a new financial plan for them, which contained multiple options on what they could do with their existing educational plan and what to do next. One of the options was to terminate the plan after completing the incoming third year payment instead of terminating it at the second year. In doing this, the couple will be able to minimize the loss to be absorbed in the amount of P224,000, instead of P257,000. They wanted to take this path instead of completing the five-year payments and end up losing more in the long run because of the minimal return.
It was also determined that the total amount that they would need to finance the college education of their child in one of the country’s top universities would be P3.5 million. Allowance and other expenses were already included in the projections that led to this amount, giving the couple a chance to prepare for possible retirement as well. And so, in order to obtain that amount, they chose an investment vehicle that is more flexible and could give the higher yield given a specific time frame.
The next time you choose a financial product or an investment, be sure to understand first what you are getting yourself into. The best investment is the right investment, the one that matches your goal.
John Patrick Sarmiento is a registered financial planner of RFP Philippines. He is a Oracle E-Business suite support analyst at Macquarie Offshore Services Pty Ltd.
Source: http://www.businessmirror.com.ph/what-are-you-getting-yourself-into/
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