Make your tax planning non-taxing2 min read . Updated: 22 Feb 2012, 09:23 PM IST
Make your tax planning non-taxing
A typical annual “to-do" list includes activities such as vacation, festival shopping, large electronic purchases, but investment and tax planning are almost always inconspicuous by their absence. Come December, all employees get a mail from their salary departments to submit details of investments made in tax-saving instruments such as postal savings, Public Provident Fund, life insurance, equity-linked saving schemes (ELSS) of mutual funds, infrastructure bonds, among others. Panic strikes and immediately triggers calls to investment advisers, chartered accountants and insurance agents to invest quickly in some tax-saving instruments and somehow meet the deadline to submit investment proof. Most of the times, these hurried investments are made without much thought on long-term benefits and returns.
Investors should look at various tax avenues available under the Income-tax Act as per their individual risk profile and investment horizon. Conventionally, a younger investor has a long-term time horizon and can take more risk. Following this logic, an older individual has a short investment horizon and would have low-risk tolerance.
Need for change in thinking
Among investment options, investors prefer traditional debt instruments. While these may provide safety and stability, they will fall short of generating higher inflation-adjusted returns over the long run. For example, instruments earning 10% rate of interest when average Wholesale Price Index (WPI) inflation is around 9% will yield 1% real rate of return (10%-9% = 1%). Hence, investors willing to take some amount of market risk may look at equity-linked investments for the long term. This asset class has historically provided high returns over longer periods. The S&P CNX Nifty has returned over 16% in the 10-year period ended 30 December 2011, almost double compared with around 8-10% yielded by tax-saving debt instruments.
Among equity tax saving instruments, ELSS, unit-linked insurance plans (Ulips) and the equity option of the National Pension System (NPS) are available for investment. The lock-in period for ELSS is three years, for Ulips, it is five years, and NPS has a lock-in period till 60 years of age. However, it is important that investors read the fine print before investing in any of these options.
Investors must also empower themselves by filing their own tax returns electronically rather than depending completely on tax consultants. The income-tax department of India has created a facility on its website www.incometaxindiaefiling.gov.in where individuals can log in and electronically file their returns by using their permanent account number. Lastly, one must also be aware of the new direct taxes code, which is proposed to be introduced with effect from 1 April 2012, under which many of the current eligible options do not appear. However, this is subject to the Parliament’s approval. Till such time, investors can go ahead with the current eligible investments.
Tarun Bhatia is director-capital markets, Crisil Research.