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Bonus payouts for the year have begun. We offer you a plan for making judicious use of this bonanza.
It’s finally the time of the year when your company will pay out the much-anticipated annual performance bonus.
In sectors such as investment banking, consulting, information technology and financial services, the bonus amount can be considerable.
“A reasonable range, leaving out the extremities, would be 15-40 per cent of CTC (cost to company) in these high-paying sectors,” says Rituparna Chakraborty, co-founder and senior vice-president, TeamLease Services.
She adds that in other sectors where bonuses are lower, these would be from 15-25 per cent of CTC.
It is a fact that people tend to be less careful with a windfall like a bonus, viewed as “found money”, vis-à-vis their salary, regarded as “earned” money and used with greater caution. We tell you how to prioritise and hence make judicious use of bonus money.
Pay off high-cost debt
The first step in your order of priority should be to pay off any high-cost debt you might have incurred. Credit card loans, where the interest rate on revolving credit can be as high as 36 per cent, should be paid first.
Personal loans should come next. The interest cost on these unsecured loans is 13.5 per cent or higher. Loans taken to buy consumer goods also fall in the high-cost category. Next in your order of priority should be car and education loans.
Save for short-term goals
Several expenditures could arise in the latter part of the year for which you might need money at short notice. If your child is to be admitted to a school, you should set aside at least Rs 1-1.5 lakh.
Many schools nowadays charge fee at half-yearly intervals, due to which each bill tends to be hefty. An unseen medical emergency also has the potential to burn a deep hole in your pocket.
A part of your bonus money could go into building a health emergency fund. Home renovation or a family wedding are other short-term expenses for which you could make provision out of the bonus money.
Pay off top-up loan
Homebuyers take this loan to meet their liquidity needs, since the interest rate on these is lower than on personal loans. “The rate of interest on top-up loans is one to two percentage points higher than on home loans. You also don’t get any tax benefit on the interest repaid. Hence, it makes sense to pay off this loan before you prepay your home loan,” says Arvind A Rao, financial planner and founder, Arvind Rao & Associates.
Prepay home loan
Before you decide to prepay your home loan by using your bonus money, take a few factors into consideration. First, if you have taken a fixed-rate loan, there will be a prepayment penalty; those on floating rate loans will escape it. Second, consider where you stand in the tenure.
“If you are early, the larger part of your equated monthly instalments (EMI) goes into interest payment. At this stage, it makes sense to prepay your home loan. But, if you have only a few years to go, the larger part of your EMI goes into principal repayment. There is less to be gained from prepaying your home loan at this stage,” says Prashant Gupta, co-founder, wealthy.in. Third, consider the opportunity cost of prepaying your home loan.
“If investment opportunities are available that can give a higher rate of return than the interest cost on your home loan, you will be better off investing your bonus money than prepaying the home loan,” adds Gupta.
A fourth factor is whether you have purchased the house for self-use or for renting. If the former, there is a limit of Rs 2 lakh on the tax deduction you can enjoy.
“If someone is paying an interest of Rs 5-6 lakh a year, his first target should be to bring the principal amount down to a level where the interest cost does not exceed Rs 2 lakh,” says Rao. On the other hand, if the property has been purchased for renting, there is no upper limit on the tax deduction benefit you can claim. “In that case, the loan repayment can be deferred. Only if you have no other pressing use for your bonus money should you go ahead and prepay the loan,” adds Rao.
Remember that if you have the money, prepaying the loan is always a better option than keeping it, even if you get a tax benefit on it. After all, you get only a 30 per cent tax break on the interest repayment; the balance 70 per cent is still a cost for you.
Invest for mid- and long-term goals
If a part of the bonus money is still left, you could use it to invest for some long-term goals such as children's education or marriage, and your own retirement.
Direct your bonus money into goals where you are falling short of your target, either because you have invested less than you were supposed to or because returns from the market have been less than expected.
Diversified equity funds are the best option for goals seven years or more away, balanced funds for goals that are five years away, and debt funds for shorter-term goals. Risk-averse investors may opt for tax-free bonds and fixed deposits.
What you should avoid
The worst thing you can do is spend your bonus money in advance, using your credit card.
The anticipated bonus might not materialise or be lower than expected. Also avoid splurging the entire bonus on fun activities like a family holiday or buying consumer goods. Display moderation in this regard. “Limit your spending on fun things and activities to 25-30 per cent of the total bonus received,” says Ankur Kapur, financial planner at ankurkapur.in.
WINNERS AND LOSERS
How different sectors/segments have fared on bonus payouts this year
Bonuses are based on CTC
Source: Michael Page India, a specialist recruitment firm
