Most Indians have a myopic view of looking at tax planning—it’s either saving tax or not paying tax at all. So, at the end of the year, there’s a mad rush to buy insurance policies, mutual funds, Public Provident Fund (PPF) and other instruments. Because of this blinkered view, many individuals end up with lower post-tax income, higher costs and an unhealthy mix of investments over the years.
On the contrary, tax planning must always be seen within the broader framework of financial planning. The actual goal of tax planning should be to maximize post-tax income, which typically is a function of higher returns, lower costs and so on.
Most people lower their total taxable income through deductions. Among the various deductions available, the most common is section 80C with a limit of Rs1 lakh. Under this, you can invest in employees provident fund (EPF), PPF, five-year fixed deposits, National Savings Certificate (NSC), life insurance premiums, equity-linked saving schemes (ELSS), pension policy premium, mutual fund pension plan and Senior Citizens Savings Scheme. There are two other non-financial investment avenues that can be utilized under this section—principal amount of home loan and tuition fees.
If you are already contributing towards your EPF, servicing home loan equated monthly instalments and paying your children’s tuition fees, you are exhausting part of your Rs1 lakh section 80C limit. Deduct this amount from Rs1 lakh. You only need to invest the difference from a tax-saving perspective.
However, if you do not have a house or children, you need to proceed differently. Look at your overall situation.
Assess whether you need a house. You will get a deduction on the principal investment as well as the interest component of the loan. A lot of people are tempted to buy a house just to save tax. Don’t do that.
Also, if you have any dependants or liabilities and you are 25-50 years in age (the accumulation phase), calculate your exact need for life insurance. Go for term insurance.
If you want a fixed-return investment, then you should first look at PPF. It’s an excellent investment for anyone in the highest tax bracket. The only risk here is interest rates may go down. However, considering political compulsions, this is unlikely to happen. Although traditional insurance policies, NSC and 5-year tax-saving fixed deposits also fall into this category, PPF and Senior Citizens Scheme remain the best debt investments so far.
On the equity front, the choice is between unit-linked insurance plans (Ulips) and ELSS. Skip most Ulips as they are very expensive compared with ELSS. You can, however, look at single-premium Ulips. The performance of an ELSS depends entirely on the stock market and there could be periods of negative returns. When opting for an ELSS, look at consistency rather than a one-off performance. Opt for a scheme with a proven track record in good as well as bad times.
Of all the choices above, the best ones for you will be a function of your needs, dependants, liabilities, return expectations and the risk that you are willing to take.
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