Protect it, instructed her mother. This wealth was accumulated by your father through years of hard work. So treat it with respect and make sure it is not wasted, advised the mother. While that seemed quite fair, what would it mean, asked the daughter. Should I simply keep it aside and protect it and pass it on to my children? The mother did not say so, but seemed to think that was a good idea. What is the point of the inheritance then?
The risk profile, preferences, needs and attitudes towards money differ significantly across generations. If the elderly like to keep the capital protected and earn an interest income, even if it is modest, the younger generation that inherits it will have enough time on hand to seek growth out of that money. They may be able to take risks to make it appreciate in value.
A large inheritance enables several financial goals that may be otherwise tough to fund. It also modifies how money will be used and allocated. It would be a pity if these privileges are not enjoyed in one’s lifetime. Consider these choices, for example:
First, the wealth might do away with the need to buy insurance and pay a premium on it. Insurance is a protection that is purchased to reinstate the wealth of the family, in case a risky and unexpected event happens that upsets the finances of the household. The computation of the required amount of insurance to buy, will consider the wealth needed to generate an income that can stabilise the household, should there be a loss of income. The presence of a large bequest serves this very purpose without having to incur the cost of the insurance premium.
Second, the saving ratios of the household need not be so strict. The corpus that is needed for many of the life goals such as higher education and retirement might be well funded by the bequest. The household can enjoy its current wealth without the fear about the future goals or about unexpected large expenses. The freedom this provides might be very valuable. So many struggle with the decision about how much to spend and how much to save. The availability of a hoard of wealth makes it easier to spend, and enjoy the current income without sacrificing long term interests.
Third, the building of long term wealth for most households will require setting aside a small amount of money each year, which will eventually grow to a large corpus. This places severe restrictions on withdrawals. When the corpus has to be accessed for any emergency or an important large expense, it is dented by the impact. Building it again to reach the earlier levels remains a challenge using the current income streams alone.
Many find it tough to take a loan against their PF, or liquidate a large investment, even for an important goal such as higher education, due to the goal compromise it entails. Funding higher education for example, tends to harm the retirement corpus, with limited time available to build it back in value.
A bequest is large from day one. It earns a return on the entire invested corpus and therefore has the resilience to take withdrawals easily. It also enables funding multiple goals without a compromise and the money that remains after a drawing continues to be deployed gainfully. The benefit of a large sum invested over the long term is far superior to that of a gradually accumulating corpus.
Fourth, a bequest enables taking a long term view of financial decisions without the worry about tactics and timing. The strategic orientation that helps build wealth over time is easily applied when a large bequest that need not be accessed immediately is available for allocation. The division between growth, income and liquidity is easier and it is possible to view this corpus as different from the routine income that flows into the household.
Fifth, a bequest enables funding of projects that may not otherwise receive funding or attention. For example, if the inheritor nurtures the dream for entrepreneurship, and wants to begin a new business, the bequest is available to fund the initial capital. It is also possible to raise loans using the equity provided by the bequest. The flexibility of funding with own or borrowed capital helps with the structuring and shaping of the new business.
There are some points of caution too. Any sudden increase in wealth can attract many exploiters towards the inheritor, some of whom might see the bequest as easy money that has not been earned righteously in their view. It is not uncommon for relatives and friends to make demands on any windfall of wealth. One must be cautious about not frittering away the wealth by falling prey to such demands.
There is no need for haste and hurry when it comes to deploying the wealth. Decisions about how much and where to invest should be made with caution after considering the choices carefully. Making chunky investments in ill-defined projects has made paupers out of many winners of contests and lotteries.
Keeping the investment and withdrawal of the corpus well balanced is a strategy that needs thinking and considered action. Leaving the wealth unutilised would be a waste, while using it all up without thought might lead to regret. Giving up the current job and profession, and leaning on the wealth for survival is a very common mistake. The risks to the corpus increases when there is no other source of income. Deploying the wealth to generate a substantial income, though prudential investment, can make the other income redundant, only if such income is stable and sustainable. We are in the midst of a large-scale wealth transfer worldover, as a generation of parents that earned and saved more than they spent in their lifetime, pass its wealth over to the next generation. The lessons for the inheritors have only begun to receive some attention. A long road lies ahead.
(The writer is Chairperson, Centre for Investment Education and Learning.)
