Thursday, July 22, 2010
Tuesday, July 20, 2010
Friday, July 16, 2010
Wednesday, July 14, 2010
The aftershocks of the financial crisis and meltdown of 2008 are still evident in the US as well as the world economy. Let's look at a bit of recent history.
The US crisis was caused primarily by the collapse of a house price bubble caused due to cheap funds. Central Banks across the world kept interest rates low to fuel credit off-take and growth. This money fuelled an asset bubble. House prices also went through the roof. People borrowed to buy houses. Institutions that had people's money (pension funds included) put their money into assets including stocks across the world. The Indian market went to a level of 21000 in end-2007/ Jan 2008 primarily due to money flowing in from abroad. When everything unwound we know what happened. People lost in excess of 50% of their retirement savings – house prices especially in the US collapsed – asset prices including stocks across the world collapsed. What was different this time compared to previous financial crises was that the contagion had spread across the world into several asset markets due to (a) the phenomenon called securitization and (b) hedge funds, pension funds, and other funds moving money across the world to buy assets which had resulted in inflated asset prices all of which crashed.
The collapse of Lehman Brothers created a big scare. Several institutions could have collapsed along with it since they had a web of transactions with the company, all of which unwound. This introduced a concept called "too big to fail" – if you are small and you take wrong calls, you are stupid and you deserve to die. If you are big and you are greedy and take the wrong calls, in case you gain the money is yours, in case you fail the government is there to bail you out! Since you are too big to fail. There is a big moral hazard inherent in all this if we reflect on it.
The governments of the world pumped in money through their central banks. This has been happening through 2009 and 2010. This has been done primarily in two ways. One is through keeping interest rates artificially low – US interest rates are close to zero today, the three-month LIBOR is at less than 0.5 percent and so on – remember the crisis of 2008 was caused by cheap money? – and the second is by printing more and more money. Running the printing presses results in reducing the value of money you hold in you pocket by creating more of it to chase the same goods and services.
Cheap money across the world is creating another asset bubble (as we speak) which is increasing prices of assets across the world. The stock markets including the Indian stock market are back up – Sensex is at 18000 levels today – the rupee has appreciated (due to foreign money flowing in) – etc. However, the rise in prices are not as high as seen in 2005 to 2007 since the world economy overall has slowed down now. Which is why this bubble that is building up is a slower build-up. Currently the Chinese are slowing because of lack of demand for their products across the world and also, a scaling down of their infrastructure spends. However, be sure of one thing – there is another bubble building – and all bankers and governments are aware of it – they just hope things somehow improve before there is any collapse.
As to printing more money, the US is doing it – and now Europe too. Greece is right now the sick man of Europe. They lived beyond their means in the last several years and now have to pay – or actually, the stronger Euro zone countries have to pay. Portugal, Italy, Ireland, Greece and Spain (PIIGS) are the countries in trouble. Smug Europe is now looking distinctly alarmed. There is an additional complication due to the Euro – they are all now inextricably linked and they will go down together!
The slowing down of China has another implication on the US as well – the Chinese used to reinvest all their surplus export revenues back in to US treasury bills to fund the US budget deficit. Which again could be hit now.
India is in a reasonably better position. The economic growth is still in the region of 6% plus – and we are again projecting 7 to 8%. Our economy was insulated (due to sheer luck and the RBI) from the world and hence did not collapse in 2008 as much as others did, except the stock market which was dependent on foreign money. RBI is talking of raising interest rates again (slowly) – it's a good thing they still want to follow a counter-cyclical policy. Our population is very young and we do not have government social security obligations to increase government spends – on the other hand we do have corrupt politicians and wasteful spending… We are as usual, muddling through.
So where does that leave us? Opinions are divided right now. There is one camp (this is primarily the establishment) that desperately wants things not to collapse and are talking positive. Even they, however, feel that there will be a lot of volatility in the next few months/near future/few years. I am sure several of them are not sure themselves of what will happen but are not saying so. There is another group, consisting of people outside the establishment and some famous hedge fund managers, who are warning that another collapse is imminent. Which one do we think will happen?
It's difficult to say at this point – we'll have to cross our fingers and watch. The Euro according to me is not going to survive in the long run – any currency to survive needs the support of monetary and fiscal policies that impact the local economy concerned – and hence it is likely to succeed only when one government is calling the shots. The Euro was doomed to failure right from the start since no one government controls its fate and each of the countries has its own domestic compulsions. The US is now at near-zero interest rates and running the printing presses overtime. Asset prices have again gone up all over the world including stock markets. In India, prices of real estate has gone up 15-20 percent in the last six months without any underlying increase in demand.
It is very likely that in the near future there will be a lot of volatility and all markets are going to swing wildly. There is a possible collapse waiting in the wings. The Indian Economy is not insulated from the rest of the world and will suffer the uncertainty in consequence as well. However, the swings here are likely to be muted compared to the rest of the world since we have some compensating dampeners like a conservative central bank following counter-cyclical policies.
As an aside, when it comes to your personal investment strategies it would be wise to invest some part of your portfolio on gold. When things go well, gold does fine though not spectacularly. If things go badly other things will crash and gold will still do fine, meaning it will do spectacularly. If you are invested in the stock market, keep a watch for signs of impending collapse (very difficult since there is high volatility) and pull your money out before the big collapse comes.
A credit card is a very useful thing to have, but very dangerous too. You must surely possess a credit card; but do you know all that you need to know about it? When you handle a gun, and a loaded one at that, you should be well aware of the mechanism and the safeguards for handling it.
Given below are some of the things you should always remember about that deceptively innocuous piece of plastic you carry around in your pocket.
Do you really need a credit card?
Yes, you do. It is very convenient since you do not have to carry around too much cash. It is also useful in an emergency.
Why do you need a credit card?
Not for credit, most certainly. As we shall go on to explain, credit through a credit card is a certain road to financial ruin. Shylock would blush in shame if he were to see the interest (and other sundry charges) we end up paying on our credit cards.
How many cards should you have?
Just one. Ignore all the experts who give you advice on having multiple cards with multiple credit cycles; carrying out balance transfers between various cards, etc.
The only exception could be where you carry a separate card for your corporate expenses. In which case, in the interest of financial discipline, make sure you don’t charge personal expenses to the corporate card, and vice versa. You might also just want to have a spare card as a backup.
What should be the credit limit on the card?
It is good to have a decent credit limit. Just as it is good not to use the card for credit, but pay your entire bill in time every month.
What are the things you should check while applying for a new credit card?
Check for annual fees. Most card issuers issue “free” credit cards today. Ideally, there should be no annual fees. Many cards that claim to be “free” charge you annual fees after the first year.
Check the lost card liability. It should be “nil” after you inform the bank about the loss. Be very careful on this point. The last thing you want to pay for is someone going on a shopping spree at your expense. From this perspective, you may also want to have a sanctioned credit limit that is not too high. This would help you in capping losses in case of possible misuse of the card.
Check the interest rate. Actually, there is no need to. Since you should not be carrying balances forward and paying interest anyway, it does not matter. Anyway, while on the subject of interest, you know that the interest rates on credit cards are anywhere between 3% to 4% per month. That’s daylight robbery. An interest rate of 3% per month translates to 42.5% per annum (it’s compounded monthly). Assuming you pay tax on your earnings at 33% p.a., you need to earn 64% interest on your savings to compensate for this. The interest on your savings bank account happens to be 3.5%; and one-year fixed deposits yield about 8%.
What is the arrangement between the bank and the merchant?
The merchant pays a commission (usually around 1.5% to 2%) to the bank. Which is why, some merchants will insist on a 2% extra charge in case you pay by card. Which is also why you pay a surcharge when you use the card at petrol pumps. This commission is shared between the issuing bank (the bank that issued you the card) and the collecting bank (the bank from which the merchant collects the money).
What are the charges on a credit card?
Let’s assume that your billing cycle is from the 1st to the last date of every calendar month. You usually get the bill by the 7th of the next month, and you have another 10 days to pay. In case you pay in full, there is no interest charged. Make sure you pay at least a couple of days before the due date, to give enough time for collection of the cheque and clearing.
You should ensure you pay in full every month, without fail. Here is what happens if you avail of the revolving credit facility, and pay part of the balance. The moment you have a balance on your card (even if it is Re. 1), you are on “revolving credit”. Till such time as you clear your balance in full, you are charged interest on all carry-forward balances, plus on all purchases that you make from the date of purchase. The clock starts ticking, and it’s a ticking time bomb!
In case you miss any payment due date, you are charged late payment fees. You are also charged a fee (usually 2.5%) on cash withdrawals. Interest on cash withdrawals is charged from the date of withdrawal, even if you have been paying fully on time; there is no free credit period here. Never use your card for cash withdrawals.
There is a 12.36% service tax levied on all the charges levied on you like annual fee, penalties, etc. That’s what you can call adding insult to injury.
Why do banks charge such a high interest rate?
Banks do this because the customers are not well informed. They easily slip into the habit of carrying balances on the card. And then find it difficult to come out of it. The banks justify it by saying that they have to charge high interest rates to compensate for the high rates of default. What that means is that you are paying for all the people who disappear without paying their dues to the bank.
What is “revolving credit”
This is the facility by which the bank says you need to pay only a part (minimum 5%) of the amount due, and carry forward the balance, at an interest rate of 3% plus. If you do some math, you will figure out that the repayment period if you pay only the minimum amount, is close to your entire lifetime.
Why do banks want you to pay only the minimum balance and not the whole amount?
Simple; they are in the business of lending money – and credit card debt is a good debt to promote since the interest earnings to the bank are very high.
If you already have high balances on your card, what should you do?
Beg, borrow, steal… from another source. Or skip a few meals and save up the money to repay. Take a personal loan from a bank to repay the card balances. Card companies do give you the option, in many cases, to convert your purchases into EMI (Equated Monthly Installment) payments – beware of this option though – it is another ploy to get you into a long-term debt trap. If you want to buy products on EMI, go for a regular consumer loan.
What should you do when you get an unsolicited add-on or supplementary card from the bank?
Cut it into four pieces and throw it into the dustbin. You are not required to even inform the bank about it.
What about all the offers of discounts on shopping, hotels, travel packages, etc. that are available to you if you use your card?
Use the card, and avail the discount – but ensure you pay the bill in full at the end of the month. Have you thought about the fact that most such discounts are available at high-end establishments where you anyway end up paying more for the same products or services?
Moral of the story: What should you resolve to do?
Never carry balances on your card. Pay in full every month.
In case you have balances on your card – beg, borrow, steal – but repay – fast!
Use your credit card, not as a “credit” card, but as a convenient mode of payment.
Resolve never to borrow. Borrow only for buying a house, or for saving your life!
(19 September, 2009)
Monday, July 12, 2010
Sunday, July 11, 2010
Paul the Octopus predicted the German team's fate correctly 6 times on 6. If you think this makes people happy, think again!
He was a darling in Germany till now - he predicted they would win, and they did. Once his prediction about the defeat to Spain came true, people seem to be blaming him for the defeat! . Security around his tank in Germany has been enhanced since he has been receiving death threats. Several Argentinians too want to cook him and eat him for dinner.
We look to omens of every kind
To foretell the future for us.
Clutching at any straw we find
To suppress our dread.
Scared of what tomorrow will bring,
We convince ourselves it will be good.
Oh, Soothsayer! Tell me all will be fine,
It's what I want to hear.
Seldom are those who foretell bad things
Liked, specially if they come to pass.
It's not the truth that we want to hear,
What we want is a salve.
The fear of death forever haunts us,
Or all we have being snatched away.
We flounder, in search of vain hope
Which keeps death at bay.
No soothsayer would tell the truth
If he really had the power to see.
No one wants to know. We just want hope
In face of adversity.
No soothsayer should predict our deaths,
We will die every day till it comes.
Our whole lives are spent running away
From the one thing that is certain.
Wednesday, July 7, 2010
Apart from death, the only thing that is certain is that we will be taxed! That is at least true in most countries of the world, including in India. We shall look at what are the few ways in which salaried individuals can save on paying taxes, but we first need to know the provisions of the Act (Income Tax Act) broadly as they apply to us.
How much tax are you liable to pay? To estimate this, you have to list all your income for the Financial Year (April 1 to March 31) first. Under the Act, your income would fall under the following categories:
Income from Salaries: Salary, Pension, and any payment arising from an employer-employee relationship
Income from Business and Profession: We shall not be covering this. For the purpose of this article, we shall assume that our primary source of income is from salary, and apart from rental income or bank interest and dividends, there are no other major sources of income.
Income from House Property: Rental income
Capital Gains: The profit or loss arising out of selling an asset – the sale price less the original cost (“indexed original cost” in some cases) is the Capital Gain on sale of a particular asset. Asset includes house, land, shares, jewelry even if it is part of one’s personal effects, securities, units of Mutual Fund, and all other kinds of assets which are not “personal effects”.
Income from Other Sources: Any income that does not fall under any of the four heads above, will figure here. Includes income from interest on bank deposits, accrued interest on NSC’s and FD’s, income from lotteries, anonymous donation and any money that falls from heaven.
Agricultural income is exempt from tax. Dividends from Equity Shares and Mutual Funds are exempt from tax – they have already incurred dividend distribution tax at the point of distribution.
Worldwide income is taxable – if you have any income from sources outside the country, that has to be included. In case you happen to be working or settled abroad, different provisions may apply, but we shall not be covering those in this article.
The way it works is that all that you earn is liable to tax unless it is specifically exempt. So if you are in doubt, you can assume it is taxable! There are specific exemptions available under the relevant heads of income which we shall look at. All provisions related here refer to the Financial Year 2010-2011 (relating to your current income for which you shall be filing returns in the next financial year, by July 31, 2011), and this article merely touches upon some of the more relevant provisions for a salaried individual resident in India – it is by no means complete – we recommend you contact your tax advisor when it comes to your specific issues and queries!
Your annual income will be taxed in the following slabs:
Up to the first Rs.160,000: Nil – In case of women (who are not senior citizens) this amount is Rs.1,90,000. In case of senior citizens above 65 years of age this amount is Rs.2,40,000.
160,000 (or 1.9 lakhs or 2.4 lakhs) to 500,000: 10%
500,000 to 10,00,000: 20%
Above 10,00,000: 30%
There is an educational cess of 3% that is added to the tax amount. Thus the highest marginal tax rate for an individual is 30.9%.
Income from Salaries
Let us have a detailed look now at “Income from Salaries”. All amounts that are received from the employer or a former employer are taxable including salary and allowances in all its forms, bonus, gratuity, pension, etc. There are a few specific provisions for exemptions on items that generally form part of your pay package that we can now look at.
House Rent Allowance (HRA): The least of the following is exempt:
- Actual rent paid less 10% of Basic Salary
- 50% of Basic Salary (in case of Mumbai, Delhi, Chennai, Calcutta) – 40% of Basic Salary in all other cases
- Amount received as “House Rent Allowance” which forms part of salary
In effect what it means is that you get exemption for any rent that you pay in excess of 10% of your Basic Salary. If the rent paid is claimed by your spouse in his / her salary or if you don’t live in a rented accommodation, then the entire HRA amount is taxable in your hands.
Provident Fund: You pay 12% of your basic salary as contribution towards your PF which is deductible under Section 80C (more on 80C later). The employer contributes an equivalent amount – this amount contributed by the employer is tax-free - it is directly deposited into your PF account and you cannot withdraw it except under certain conditions. This money earns interest at the rate declared by the Government every year – currently, it is 8.5% tax-free. You get to withdraw the accumulated sum on retirement fully tax-free. There are certain conditions under which you can avail of loans against your PF balance, but it would be in your interest to let the corpus grow and not touch it till you retire. Which other investment gives you an exemption in tax at the time of investment, an exemption on Interest earned, and a full exemption on withdrawal? By the way, what we just described is called the E-E-E model.
Superannuation Fund contribution (SAF): The employer can contribute up to another 15% (over and above the 12% to PF) to the Employee’s Superannuation Fund. This amount does not require a matching contribution from your side. It is tax free up to Rs.100,000; the balance amount is taxable. Obviously, since it enjoys an exemption, there are certain conditions attached. The corpus is invested by the trust either by itself or through LIC through a fund set up for this purpose. The returns that the fund gets every year are added back to the corpus of the holders, and these yearly accretions to your account are tax-free. At the time of retirement or superannuation, you can commute one-third of the amount, i.e., get one-third of your accumulated corpus in cash tax-free. The balance two-thirds has to be invested in buying an annuity that will start giving you pension after you turn 60. The pension, by the way, when you start getting it, is fully taxable as your income. So the SAF can be said to be following the E-E-T model.
Staff Transportation provided to-and-fro between office and home, is fully exempt though it is a perk that the company provides to you. In case the company does not have this facility and gives you a transport allowance instead, such allowance is exempt up to an amount of Rs.800 per month.
Meal Coupons (Sodexho or Ticket Restaurant) that the employer provides to you, and/or meals provided at company expense at office, are tax-free since there is a provision in the Act which exempts such payments up to the limit of Rs.50 per meal.
The premium on Medical Insurance and Life Insurance which the Company pays is exempt from tax.
Employee Rewards / Awards are taxable if the amount exceeds Rs.5000 per annum.
Some companies have Medical Allowance and Leave Travel Allowance on which tax exemptions can be claimed. Against your medical allowance you can claim up to Rs.15,000 per annum tax-free on production of medical bills for treatment of self and family. Against your Leave Travel Allowance, you can produce tickets and proofs to claim travel expenses tax-free twice in a block of four years, for going on vacation with family. The amount eligible is economy class air fare. However, these two provisions are highly prone to misuse where people produce false claims, and there is a heavy onus placed on the company to ensure sufficient safeguards. Several large companies do not have these two allowances as part of their pay – they prefer to gross up the tax and include the amount in the pay, rather than take a risk with false claims.
We shall discuss more on Tax in the next issue. Bye till then.