SIPs Vs. EMIs: Which Is Better?   Apr 20, 2017

Zindagi Na Milegi Dobara
Yeh Jawani Hai Diwani
Dil Chahta Hai

What do these three Bollywood movies have in common?

They inspire you to live life to the fullest.

Living your dreams, doing what you love and are passionate about, encourages you to travel and live in the present, because you only live once (YOLO).

Childhood friends, Aditya and Prashant, met over dinner last night. They were meeting after months, and for years were planning for an adventure trip. This time, Prashant was excited as he recently came across a Scuba Diving Trip to a secret island in the Maldives. He was excited about the trip and the thrills it offered. The only concern was that the trip would set them back by over Rs 3 lakh.

A spendthrift by nature, Prashant had little savings to fund the trip. But as this would be a once in a lifetime adventure, he did not want to miss it. He decided to take a holiday loan of Rs 3 lakh at 12.5% for three years.

Aditya, on the other hand, was the opposite of Prashant. He was equally excited about this trip, but was unworried about the finances.

They had been planning to go on an adventure trip for some years, he had already started saving and investing regularly in mutual funds through Systematic Investment Plans (SIPs). Now, as their expedition to Maldives fructified, his savings would be sufficient to fund it.

So here, we see two individuals—One who takes the EMI route to fund his expenses; the other planned in advance and took the SIP route.

What would you prefer, a holiday loan or a SIP?

Though EMIs simplify your life and help you achieve your goals instantly, they come with certain interest charges and other processing costs. Along with that, they become a liability and add pressure to your pocket.

Now you are wondering if SIP implies a monthly commitment as well, then why is an EMI a burden?

The answer is highlighted below:

Light on the wallet

The SIP route enables you to invest in smaller amounts at regular intervals (daily, monthly or quarterly). You can simply take the SIP route and trigger the mutual fund investment with as low as Rs 500 per month.

Aditya has been investing monthly Rs 10,000 in mutual funds through SIP over the past two years. As the mutual fund returned an annualised return of 41.36%, now he has built a corpus of almost Rs 3,41,000. And hence he can go on this vacation without availing a loan.

Prashant on the other hand will be paying an EMI of almost Rs 9,900 for the next three years.

Power of compounding

Next important point is the power of compounding. Your regular investments through the SIP route will help your wealth grow by leaps and bounds. So, say you start a SIP of Rs 1,000 today, in a mutual fund scheme following prudent investment system and processes, with a SIP tenure of 20 years. You will be amazed to see that your small savings of Rs 1,000 p.m. (Total investment-Rs 2.4 lakh) has grown into a huge corpus of 15 lakh in 20 years (assuming a modest return of 15% p.a.).

Similarly, Aditya’s total investment of Rs 2.4 lakh in the last two years, with the power of compounding, grew to nearly Rs 3.5 lakhs.

Conversely, Prashant is going to pay over and above his travel cost. That is because of the interest cost. His total outflow will be over Rs 3.50 lakh.

Young adults these days are highly influenced by this “YOLO” mentality and end up becoming spend thrifts. In the thrill of adding more experiences to their life, they end up in a debt trap.

The EMI option comes in handy to buy things that you really need. For example, if your mobile phone is stolen or breaks down, and cash is unavailable, buying one through the EMI option makes sense.

However, availing of a purchase loan for every little thing will only add to your stress. It may gratify you, but you must ensure that it doesn't take a toll on your priorities. Remember that, if for the heck of short-term joy, you let go of the bigger objectives in life, then you would be doing harm to the long-term financial well-being of your entire family.

In the above example, Prashant can easily delay his holiday plan and avoid taking loan. Instead, he can start a SIP as a “credit” EMI and begin his journey to financial freedom.

You should not forget that an emergency can knock at your doors at any time. Hence, you should know how to build a contingency fund with mutual funds that will protect you during your difficult times.

PersonalFN is of the view that:

✔ Curtailing avoidable expenses is important
✔ Investing early in small amounts and gradually increase with Step-up SIP is a smart investing formula
✔ It is imperative that you first save for achieving financial security and then spend on lifestyle and leisure
✔ By avoiding a loan and delaying your large expenses you will be able to save on your interest outflow considerably

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