Your Questions Answered: How can I use SIPs to save for my dream home in Bengaluru’s outskirts?

I am a senior ad executive with a FMCG company in Bengaluru. My wife is a senior Python developer with an IT company. We are currently living in a rented accommodation. We are aiming to buy a house on the outskirts of Bengaluru in the future. We want to understand how we can use SIPs in order to achieve our goal of buying a home.

Avinash K., Benson Town, Bengaluru

Introduction

Buying a home is a significant life milestone for many individuals. However, with rising prices and other costs that come up as we grow older, buying a home in any of India’s big cities is easier said than done. Today we will discuss how mutual funds can help make this dream a reality.

So, how does a salaried person use mutual funds to buy a dream house? To answer this we will first have to understand what a mutual fund Systematic Investment Plan (SIP) is and how it can be a useful tool. Let’s dive in!

What is SIP?

A Systematic Investment Plan is a disciplined way of investing a fixed amount of money at regular intervals (monthly, quarterly, etc.) into mutual funds. It allows investors to purchase units of a mutual fund scheme on a specific date each month, thereby building a habit of regular investing.

This is especially useful for salaried individuals as it allows them to set aside a fixed portion of their income and invest in a disciplined approach with an experienced fund manager looking after their investments.

Benefits of investing in mutual funds through SIP?

Investing through SIPs can provide a number of benefits to the investors. We have listed the key benefits of investing through SIP below

1. Disciplined investing

One of the primary benefits of SIP is that it promotes disciplined investing. By committing to invest a fixed amount regularly, you develop a habit of saving and investing consistently. This helps in avoiding the temptation to time the market and ensures that you invest regardless of market conditions.

2. Rupee Cost Averaging

SIP allows you to take advantage of rupee cost averaging (RCA). When you invest a fixed amount regularly, you buy more units when prices are low and fewer units when prices are high. Over time, this averages out the cost of your investments, potentially reducing the impact of market volatility.

3. Power of compounding

SIPs benefit from the power of compounding, where the returns generated on your investments are reinvested to generate additional returns. The earlier you start investing, the more time your money has to grow, leading to substantial wealth accumulation over the long term.

4. Flexibility

SIPs offer flexibility in terms of investment amount, frequency, and duration. You can start with a small amount and gradually increase it as your income grows. Additionally, you can choose the frequency of your investments (monthly, quarterly, etc.) and the duration based on your financial goals.

5. Convenience

Investing through SIP is convenient and hassle-free. Once you set up the SIP, the investment amount is automatically deducted from your bank account at regular intervals. This automation ensures that you stay consistent with your investments without manual intervention.

6. Affordability

SIPs are affordable and accessible to a wide range of investors. You can start investing with a small amount, making it easier for individuals with limited funds to participate in the market and build their investment portfolio over time.

7. Diversification

Investing in mutual funds through SIPs allows you to diversify your portfolio across various asset classes and sectors. This diversification helps in spreading risk and potentially enhancing returns, as different asset classes perform differently under various market conditions.

8. Goal-oriented investing

SIPs can be tailored to meet specific financial goals, such as buying a home, funding education, or planning for retirement. By aligning your SIP investments with your financial goals, you can systematically work towards achieving them over time.

9. Professional management

When you invest in mutual funds through SIPs, your money is managed by professional fund managers. These experts have the knowledge and experience to make informed investment decisions, helping you achieve better returns compared to individual stock picking.

How to use SIP for buying a house?

We have jotted down the steps you can follow to make your investing journey easier.

Step 1: Understand your financial goal

The first step is to determine the cost of the home you wish to buy. Consider factors such as location, size, and amenities. Once you have an estimated cost, you can set a target amount for your SIP investments.

Step 2: Determine the investment horizon

Next, decide on the time frame within which you want to buy your home. This will help you calculate the monthly SIP amount needed to reach your goal. For example, if you plan to buy a home worth ₹50 lakhs in 10 years, you need to calculate how much you should and can set aside monthly to accumulate this amount.

However, simply saving your money isn’t enough. This is because inflation will eat away the value of your savings over time. On the other hand, investing your hard-earned money not only helps you beat inflation but also surpass it. This helps you achieve your goal faster. That brings us to the next step i.e. selecting a mutual fund that will give you the required returns for the risk that you are willing to take.

Step 3: Choose the right mutual funds

Selecting the right mutual funds is crucial for the success of your SIP. Following are the key factors which one should consider before selecting a mutual fund:

Risk tolerance

Understanding your risk tolerance is crucial when selecting a mutual fund. Different mutual funds come with varying levels of risk. Equity funds, for example, are generally riskier but offer higher potential returns, while debt funds are less risky but provide more stable returns. At the same time, certain equity funds like the small and mid-caps invest in riskier stocks (small and mid-sized companies) in order to make higher returns in comparison to funds that invest in large caps (well-established companies with strong market presence that are stable) that are safer. Assess your risk appetite and choose a fund that aligns with it.

Fund performance

Evaluate the historical performance of the mutual fund. While past performance is not indicative of future results, it can give you an idea of how the fund has performed in different market conditions. This will also give you an idea of what returns you can expect from this type of mutual fund. Look for consistency in performance over the long term rather than short-term gains.

Expense ratio

The expense ratio is the annual fee charged by the mutual fund for managing your investments. It includes management fees, administrative costs, and other operational expenses. A lower expense ratio means more of your money is being invested, which can significantly impact your returns over time. Compare the expense ratios of similar funds before making a decision.

Fund manager’s track record

The expertise and experience of the fund manager play a crucial role in the performance of a mutual fund. Research the fund manager’s track record, investment style, and tenure with the fund. A skilled and experienced fund manager can make a significant difference in the fund’s performance.

Fund’s investment strategy

Understand the investment strategy of the mutual fund. Different funds have different strategies, such as growth, value, income, or balanced. Ensure that the fund’s strategy aligns with your investment goals and risk tolerance. For example, if you are looking for long-term capital appreciation, a growth-oriented fund might be suitable.

Asset allocation

Review the fund’s asset allocation to understand how your money will be invested. A well-diversified fund that spreads investments across various asset classes (equities, bonds, etc.) and sectors can help mitigate risk and enhance returns. Ensure that the fund’s asset allocation aligns with your investment objectives.

Exit load and other charges

Some mutual funds charge an exit load if you redeem your units before a specified period. Additionally, there may be other charges such as transaction fees or account maintenance fees. Be aware of these costs, as they can impact your overall returns. Choose a fund with minimal exit load and other charges.

Tax implications

Consider the tax implications of investing in a mutual fund. Different funds have different tax treatments. For example, equity funds held for more than one year are subject to long-term capital gains tax, while debt funds have different tax rules. Understanding the tax implications can help you make an informed decision and optimize your returns.

Fund size and AUM

The size of the mutual fund and its Assets Under Management (AUM) can also be an important factor. While a larger fund may indicate investor confidence, it may also face challenges in managing large sums of money efficiently. Conversely, a very small fund may lack the resources to perform well. Look for a fund with a reasonable size and AUM that aligns with your investment goals

Step 4: Calculate the SIP amount

Use an SIP calculator to determine the monthly investment amount required to reach your target. A SIP calculator takes into account the expected rate of return, investment horizon, and target amount to give you an estimate of the monthly SIP amount.

It is also important to give yourself some leeway by also accounting for inflation. After all, the cost of a house will increase significantly over a decade.

Step 5: Start investing

Once you have calculated the SIP amount and chosen the mutual funds, it’s time to start investing. Set up a systematic investment plan with your chosen mutual fund provider. Ensure that the SIP amount is deducted automatically from your bank account every month to maintain discipline.

Step 6: Monitor and review your investments

Regularly monitor the performance of your SIP investments. Review your portfolio at least once a year to ensure that it is on track to meet your financial goal. If necessary, make adjustments to your SIP amount or switch to better-performing funds. However it is important not to overdo this as daily market fluctuations can test your patience and influence decisions.

Step 7: Stay disciplined and patient

Investing through SIP requires discipline and patience. Avoid the temptation to withdraw your investments prematurely, even if the market is volatile. Remember that SIPs are designed to benefit from the power of compounding and rupee cost averaging over the long term.

Step 8: Plan for the down payment

As you approach your target amount, start planning for the down payment and if needed look at whether financing your home through both investments and a loan is a possibility. Most lenders require a down payment of 20-30% of the property’s value. Ensure that your investments through SIP can at least cover this amount if not more depending on the time you have.

However, if you are looking to partially finance the house using a loan then there are several factors you should consider. Determine how much you need to borrow based on the property’s cost and your down payment. It is also important to remember that the loan tenure has an impact on the total interest you will be repaying.

Review the loan agreement carefully to understand the processing fees and other charges. Consider prepayment and foreclosure options as this will help you save on the total interest that you repay.

Conclusion

Using SIP to buy a home is a smart and systematic approach to achieving your financial goal. By starting early, choosing the right funds, and staying disciplined, you can build a substantial corpus over time and make your dream of owning a home a reality.

Disclaimer: Investing in mutual funds involves risks, including potential loss of principal. Please consult with a financial advisor before making any investment decisions.

Kuvera is a free direct mutual fund investing platform.