Inflation can increase the cost of financial goals such as higher education, buying a home, and retirement. This means the amount required to meet a goal in the future may be higher than its current cost. Therefore, investors need to account for rising expenses when planning their savings. Systematic Investment Plans (SIP) enable the investors to invest fixed amounts regularly in mutual funds (MF). However, the monthly investment needs to be planned around the estimated future cost of the goal and the time available to build the required amount. This article will discuss how inflation affects financial goals and what to consider when planning SIPs.
How Does Inflation Affect Your Financial Goals?
Inflation refers to the general rise in prices over time. As prices increase, the same amount of capital buys fewer goods and services, which reduces the purchasing power of savings.
For example, if a course costs ₹10 lakh today, its cost may increase over the next 10 years. Saving only ₹10 lakh for this goal may leave a shortfall at the time of payment. Education and healthcare costs may also rise at a rate different from housing or everyday expenses.
How to Calculate the Future Cost of a Goal
The following are a few steps that may help in estimating the future cost of a goal and setting a savings target.
1. Identify the Current Cost
The first consideration is to estimate what the goal would cost today, such as the present cost of a college course, a home purchase, or planned retirement expenses. Recent prices may be used where possible.
2. Estimate the Inflation Rate
An estimated annual inflation rate may be chosen for the expense. The actual rate may change over time, so the figure is treated as an assumption and not as a fixed outcome.
3. Calculate the Future Cost
The future cost may be estimated using the following formula:
Future Cost = Current Cost × (1 + r)ⁿ
Here, r is the annual inflation rate expressed as a decimal, and n is the number of years until the expense. For example, a goal costing ₹10 lakh today may cost around ₹17.91 lakh after 10 years if inflation averages 6% annually.
How to Plan SIPs Around Future Goals
The following are a few steps that may help in planning monthly investments once the future cost has been estimated.
1. Set a Target Amount
The estimated future cost may be used as the target amount. If some savings are already set aside for the goal, these may be considered while calculating the remaining amount.
2. Consider the Investment Period
The time available before the capital is needed affects how investments are planned. A longer period allows more time to contribute, while a shorter period may require a different savings approach.
3. Estimate the Monthly SIP
An MF SIP calculator can be used to estimate the monthly investment that is needed to help achieve the target. These calculations tend to need the target amount, investment period, and a projected rate of return. Mutual fund returns vary and are not fixed, so the actual value may differ from the estimate.
4. Review the Plan Periodically
The target, savings, and monthly contributions may be reviewed regularly. If the expected cost of the goal rises or income changes, the monthly investment may need to be adjusted.
Example of Inflation-Adjusted Goal Planning
The following table shows the estimated future cost of an education expense that costs ₹10 lakh today, assuming it rises by 6% each year.
| Factor | Estimate |
| Current education cost | ₹10 lakh |
| Assumed annual inflation | 6% |
| Time until the goal | 10 years |
| Estimated future cost | ₹17.91 lakh |
The estimated future cost may be used to calculate the monthly amount to be invested. The required SIP depends on the assumed return and the amount already saved. Both inflation and returns may differ from the estimates used.
A mutual fund app may help investors access scheme details, review investment information, and track their investments, depending on the features available on the platform.
Conclusion
Inflation increases the amount required for a future goal, so the same amount saved today may not be sufficient later. Thus, the amount saved today might not be enough to meet a future goal. Estimating the future cost based on an assumed rate of inflation, deciding the target, and calculating the required monthly SIP based on the investment period and assumed rate of return are some examples of creating a plan. Hence, an investor must review the assumptions periodically, as inflation and returns may change. There are various platforms like 5Paisa where one can gain more knowledge regarding mutual fund schemes and use tools to estimate SIP amounts and understand the figures involved.
