5 points to note about tax saving

Jan 06, 2015

The need for you to be actively engaged in your personal tax planning is of particular importance. By structuring a suitable mix of investments for your portfolio, you can pay less tax and ensure that you have the right investments to help you achieve your goals.

1) Have a holistic approach to tax planning

Good tax management can go a long way toward enhancing your return. But the decision needs to be made in conjunction with your overall portfolio and not in an ad-hoc fashion.

Most individuals rarely think about tax planning from an investment point of view. Hence one finds that they do not approach an investment with a perspective of whether or not it fits in with their overall portfolio. The approach is often just grabbing up investments that will give them the tax break, irrespective of whether or not it will help them reach their determined financial goals or fit into an overall investment strategy.

Tax planning investments are no different from conventional investments. Hence, it is imperative to obtain an in-depth understanding of all investment avenues available which offer tax benefits and choose suitable ones that will help save tax and achieve goals.

2) Don’t leave tax planning for the fag end of the financial year

Along a similar vein, one should not consider tax saving as once-in-a-year ritual to be repeated at the end of every financial year. Most procrastinate and wait until the last minute. The result is a portfolio full of insurance schemes and investment decisions made in a tizzy.

Most investors in a crazy dash to meet their Section 80C requirement will opt for unit linked insurance plans, or ULIPs, and endowment plans and often end up with products that do not suit their need.

Life insurance should never be bought with the intention of saving tax. Tax saving is just one of the benefits that come along with it. The main benefit is the provision of finances in the case of death of the policy holder.

Taxes can be saved with other tax-saving instruments such as equity linked saving schemes, tax-saving bonds and government bonds, post-office savings schemes and Public Provident Fund.

3) PPF and NSC are not similar

Another mistake individuals tend to make is to think of the Public Provident Fund, or PPF, and National Savings Certificate, or NSC, along the same lines. Granted, both offer tax saving benefits under Section 80C, both are backed by the government, and both offer assured returns, but they are very different in their structure.

On the point of liquidity, NSC scores simply because of the lower lock-in period. The NSC VIII Issue is for 5 years and the NSC IX Issue is for 10 years. PPF is much longer at 15 years and can even be extended by a block of 5 years on maturity.

On the return front, the rate for PPF is fixed by the Reserve Bank of India and is reset every financial year. It currently stands at 8.7% per annum. In the case of NSC, the rate of return is locked at the time of investment and during the tenure of the investment it remains insulated from any changes in rates. Currently the rate is 8.5% (NSC VIII) and 8.8% (NSC IX) per annum.

The return in both cases is compounded and handed over on maturity. In the case of PPF, it is compounded annually, but half-yearly where NSC is concerned. But the interest earned in the case of NSC is taxed, unlike PPF where it is completely exempt from tax.

4) Tax saving is more than fixed-return instruments

Individuals tend to look at the Senior Citizen Savings Scheme, or SCSS, 5-year deposits, NSC and PPF as the tax-saving investment avenues. But you can also invest in an equity linked savings scheme, or ELSS. These are diversified equity mutual funds that offer a tax benefit under Section 80C. They have the lowest lock-in period of just three years.

As on January 5, 2014, the ELSS category average delivered an annualised return of 27.55%. Do note, that was just the category average. Individual funds could have delivered even more. For instance, the chart topper was Reliance Tax Saver (Growth) with an annualised return of 40%.

Having said that, keep in mind that these are equity funds which means, the return is far from guaranteed. So pick a good fund that has shown consistent performance and stick with it over the long haul. Don’t be in a tearing hurry to sell your fund units on completion of three years. Exit from the fund when the market is rallying so you walk away with a profit. If this means hanging on for a few more years, do so.

5) Take into account the entire package

Tax saving is more than just investments and goes beyond Section 80C.

If you have made a donation to a charity that offers a tax deduction, avail of it. If you are paying premium on a medical insurance policy for yourself and dependents, be sure to claim the deduction.

Also, if you are servicing a home loan or an education loan, you are eligible for income tax deductions. Under Section 80C, you can even show the expenses of your child’s education to avail of a deduction.

When deciding how much to invest to max your deduction under Section 80C, take into account children’s tuition fees, principal repayment on home loan, contribution to employees provident fund, or EPF, and any life insurance premium you are paying.

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