There are always two sides of the same coin and the history of self-employment is no exception to this rule. India has a large proportion of self-employed people, making up more than 50% of the country’s workforce. Three broad categories can be drawn among the self-employed: entrepreneurial millennials, traditional family businesses, and new-age temp workers.
For India’s freelance workforce, building financial strength has become paramount and finding the right means to do so in a sea of multiple financial instruments is no easy task.
It’s no secret that self-employment involves a certain amount of financial risk. Unlike the organized workforce, self-employed workers do not receive a monthly paycheck and work on a project model, which leads to disorganized income. They do not have employee provident funds, health insurance coverage or paid sick leave, travel allowance, etc. They are also fully responsible for the financial stability of their business in a crisis or boom. They are unique players in the broader financial system and play a crucial role in creating the economy. Your financial preparation therefore plays a crucial role for the ecosystem as a whole.
Four key steps to prepare for a disciplined financial life
- Keep personal and business accounts separate – In a one-man business situation, it is very easy for income, personal expenses, business expenses and investments to overlap and become entangled. The first step in establishing financial discipline is to separate personal and business accounts. All business-related expenses, such as travel for assignments, project-related expenses, paying for his team, etc., must be managed from the business account. It is absolutely essential to create a salary-like structure for yourself so that the income you generated above expenses can be invested in appropriate financial instruments.
- Get a financial and tax advisor – When you have your own business, it is tempting to put all your money to grow it even more. While growing your business is important, it cannot come at the cost of personal financial preparation and stability. Hiring a financial and tax advisor is ideal, as a third party’s unbiased view of your business and personal finances can be beneficial.
It is imperative that one do a thorough background check and investigation regarding the financial advisor and manager of their choice. Once elected, it is equally important to stay involved in managing your own finances and not let the financial manager take matters into your own hands.
- Keep family members informed – In formal employment, family details are available with employers and in case of any unfortunate event of death or health issues, family members are supported by the HR team. But for self-employed people, that option is not available, so financial transparency with spouse and other family members is necessary. Nominations and joint participation in investments may be an option. One can get guidance from financial advisers to keep financial life smooth in any circumstance.
- Estate Planning/Will – Many self-employed people invest in non-financial assets, such as gold, real estate, commodities, other alternative and non-traditional investments. Estate planning or financial will can come in handy in case of any unfortunate incident and can smooth out legal matters for heirs.
Once the above aspects are addressed, you need to address some routine or day-to-day aspects of financial planning and wealth building for long-term financial stability.
Financial planning for long-term stability
- Keep a monthly budget and fix the uneven stream of income
Self-employment often generates unequal income, leading to sporadic changes in lifestyle, which can affect quality of life. Certain expenses such as housing rent, monthly payments (EMI), school fees, and utility bills are unavoidable on a monthly basis. It is essential to outline a monthly budget to plan ahead.
This budget will help approximate monthly expenses and savings requirements for the future. With a disciplined approach, you can create an estimate of a year’s regular expenses and plan for additional expenses that may occur. It will allow for better short-term liquidity and longer-term investments.
- Creating an emergency fund
A contingency fund is a safety net, essential to ensure the aspirations of loved ones against unforeseen events. It is ideal to keep the contingency fund parked in savings products such as bank deposits or debt mutual funds that are liquid in nature.
For employed people, keeping expenses for three to six months is enough. However, given the irregularity of the income of a self-employed worker, it is ideal to have a larger corpus ready, representing six to eight months of expenses. Self-employed individuals should go through a similar exercise to get through any unforeseen interruptions to their business to ensure continuity. In the event of an emergency, this fund can absorb the temporary financial shock and help get through a rough patch without affecting monetary stability.
- Creating regularity in income
Considering the income uncertainty of self-employment and self-employment, there are financial products available that can offer structure to earnings by creating a secondary source of income. There are income plans created specifically for this purpose. Tax-efficient tools such as post office monthly income plans, mutual funds, and various insurance products are also recommended.
- Protecting yourself and your loved ones
No financial portfolio can be complete without adequate protection. The Covid-19 pandemic has highlighted a great need for life insurance and critical illness covers to ensure that a sudden shock to livelihoods does not put a dent in one’s savings.
Corporations typically provide insurance coverage for their employees through group insurance. However, given the nature of their jobs, self-employed people do not have such benefits attached to their jobs. Therefore, insurance is a priority purchase for these people.
There are also many profession-related insurance solutions available. For example, is your office space insured against accidental damage? It is necessary to assess the risk factor of businesses, which could cause a threat to financial health and adequate insurance coverage should be purchased to cover such risks.
- retired life plan
The average lifespan of Indians is improving, and the proportion of the elderly population is gradually increasing. This indicates the need for a focus on retirement planning, especially for those who are working now. For a self-employed person, the lack of retirement can not only lengthen their working years, but also keep income uncertainty alive for a long time.
People with formal employment obtain an employer pension or a retirement corpus through PF, VPF and gratuity. However, a self-employed person is at higher risk of financial instability and therefore needs to start planning for retirement early on.
The National Pension Plan (NPS), income plans, or annuity and retirement solutions specifically provide avenues for building a retirement corpus. These plans are also eligible for tax deductions and therefore can contribute to tax savings when planning your portfolio.
- Long-term wealth accumulation
Whatever stage of life one is in, finances always determine the quality of life. Regardless of the level and stability of income, individual dreams and aspirations continue unabated, such as building a dream house, higher education for children, buying cars, etc. All of these goals require a large sum of money and therefore need a critical look in managing one’s finances.
One can choose from financial instruments like NIFTY 50 funds, mutual funds, guaranteed plans, etc., to create a path for disciplined wealth accumulation. In this aspect, it is always recommended to take the guidance of a financial advisor.
- Using tax-saving tools for financial discipline to support long-term wealth accumulation
Section 80C of the Income Tax Law offers many tax-saving investment options. This segment is equally important for all earners, even more so for self-employed individuals. In formal employment, there are several controls, such as the mandatory submission of investment details under Section 80C to save taxes, which also helps in the automatic accumulation of wealth. In the absence of such automatic controls, the self-employed need to be more aware of fiscal savings instruments, such as the Public Provident Fund with a maturity of 15 years, the share-linked savings plan with a three-year lock-in period , the ULIP life insurance plan. with mandatory five-year lock-in, fixed tax savings deposits in banks with three-year lock-in, etc. the locking element.
Finally, perhaps the most important lesson in managing your finances is to remember that while it is recommended that you seek advice from qualified financial advisors, you cannot follow their advice blindly. You have to be very involved in managing your portfolio because no one knows your current needs or can anticipate your future needs as accurately as possible. You have a much better view of how you see the stages of your life, as well as how your business is likely to perform in the long run. So take charge and start planning your finances today for a more secure tomorrow.
It’s a good idea to do some research and get help from qualified financial advisors to ensure financial health.