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Business News/ Money / Calculators/  Five questions you need to ask to ascertain real returns
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Five questions you need to ask to ascertain real returns

Questions to ask before you swallow any sales push that is using returns to make the pitch.

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So you make news around the office coffee table when you announce that you have found a product that will give you 100% return. The advertisement is good to attract non-investors, but for smarter investors, actual return matters. Cost, inflation, tax and the method of interest calculation are four key things that can melt a fat looking return figure into nothing. Here are five questions to ask before you swallow any sales push that is using returns to make the pitch.

Is it annual?

What an investment will throw off each year is the relevant number and not what the corpus will grow to. Sellers use the big fat final corpus numbers to attract investors, like in the case of the 100% advertisement. The 100% return winds down to a mere 7% per year. Remember to benchmark an annual return to a comparative fixed deposit (FD) return or the 8% on government schemes for long-term products.

Simple or compounded?

Simple interest is when the amount you invest, say 1 lakh, yields a return that is not added back to the principal, but usually paid out, like in a fixed deposit. Compound interest will add back the interest to the principal and calculate the interest due for the next year on the combined amount of the principal and interest. And this it will do repeatedly, over the life of the investment. Simple interest of 10% on 1 lakh over 10 years will give a final corpus of 2 lakh and compound interest will give 2.59 lakh.

Is it post-cost?

A rate of return is the rate at which your money grows, it does not reflect the corpus that you get at the end of the term. Apart from fixed-return investment vehicles such as the Public Provident Fund (PPF), actively managed investment avenues such as mutual funds (MFs) charge you for managing your money. MFs cap charges at 2.5%, unit-linked insurance plans with tenors over 10 years cap it at 2.25%. Deduct the charges and you get the actual yield on your investment.

Is it post-tax?

Taxes eat up a substantial part of your return. So, taxable instruments, such as FDs, are not so popular with savvy investors. An attractive 9% FD may lose its sheen after you pay 30% tax on the interest and find that your net return is just 6%.

Is it post-inflation?

The silent purchasing power killer is more difficult to build in since it is money that goes to nobody directly but value we lose to inflation. An 8% return means a real return of just 2% if inflation is at 6%.

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Published: 08 Apr 2013, 04:51 PM IST
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