Increase wealth and save taxes at the same time

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It’s sure to attract a lot of interest, given the significant tax savings that can be made. There are many options in this category, and choosing the most appropriate one requires some thought.

From Anupama Bhargava,

It’s that time of year once again when we start thinking about our tax savings for the year and strive to make last-minute tax-saving investments before the fiscal year ends. While we cannot eliminate taxes entirely, a smart investor can certainly reduce overall tax spending through prudent tax planning. A key section for tax savings is the 80c where one can save up to Rs 46800 in taxes.

It’s sure to attract a lot of interest, given the significant tax savings that can be made. There are many options in this category, and choosing the most appropriate one requires some thought. Many choose these investments with little thought and end up getting stuck with unwanted and unsuitable investments. What can make a difference is using these options wisely to not only save on taxes at the time of entry, but also tie them to your long-term financial goals.

What’s easier said than done is difficult in practice, especially given the sheer number of options. Should you choose the portly old term deposit or PPF? Would it be better to choose a ULIP or an ELSS? Then there is the issue of lock-ins. Should we go for the higher lock-ins or do the shorter ones suit us better? Taxation after maturity is another factor to choose from. The choice is difficult and since you have to do it almost every year, choosing the most suitable one that not only saves taxes but also creates wealth in the long term is an important decision.

Let’s take a quick look at the popular offerings and their unique characteristics in terms of returns, security, flexibility, liquidity, costs, transparency, investment friendliness and taxation of income. This will certainly help to decide and choose the best option

Equity Linked Savings Scheme (ELSS): ELSS is a type of mutual fund that mainly invests in stock markets or stocks. The advantage of ELSS compared to other tax savings instruments is the shortest commitment period of 3 years and attractive returns with lower taxes after the due date. Over the past 5 years, ELSS has returned 16.5%. While the low commitment and high yields make this an attractive option, one must be aware of the high volatility that markets exhibit. A tiered approach will greatly reduce volatility.

National Pension System (NPS): NPS comes with a longer lockdown, but the additional tax savings these deals offer make it an attractive option. In addition to the 80C, one can save Rs 15600 in taxes. 60% of income earned after age 60 is tax-free, with the remainder being collected as a taxable annuity.

Unit-Linked Insurance Plans (ULIPs): The long-term tax benefit that can be gained from ULIPs makes them an attractive option for most investors, and perhaps this is the biggest selling point for these instruments. However, one must factor in the possibility of lower yields, long lock-ins, and mis-selling. Sold as an instrument offering tax-free returns, an investor needs to understand that the returns are only tax-free if the insurance coverage is more than 20 times the investment made, and of course this would come at the expense of lower returns. Also, unlike a 5-year product, the entire life of the investment needs to be looked through to get the full benefit.

Public provident fund (ÖPF): Among the small savings, this instrument performs best with a return of 7.1% and is tax-free at that. Ideal for those looking for security for their body. However, this comes with a long blocking period of 15 years, which makes it unsuitable in terms of liquidity. A PPF account can be opened at a bank or post office.

Senior Savings Scheme (SCSS): With a yield of 7.4%, this is possibly one of the best returns one can get on their investments, especially for seniors. This also offers the benefit of regular returns, paid quarterly and taxed at the individual’s tax record. Also, one can claim the additional exemption of Rs 50000 as interest income under the new tax rules. The investment limit that one can make here is only Rs 15 lakhs and people over 60 years old can only apply once.

Sukanya Samridhi scheme: If you have a daughter younger than 10 then this is a perfect way to save on taxes while creating a healthy body for her education/marriage. This offers a yield of 7.6%, which is subject to change on a quarterly basis. You can open an account at the post office or a bank.

5 years bank deposit: Possibly one of the most common, but least suitable given the low yields, lock-ins and taxation of returns. Corpus security is why people invest in this option, but it’s worth remembering that this security comes at a price. Yields can hardly beat inflation and are tax inefficient.

Classic life insurance: These remain the worst way to save on taxes. With expensive premiums that offer very poor coverage, these investment vehicles have high fees and low returns. They are also very illiquid and are falsely sold as guaranteed return products.

As most people go through the ritual of investing in tax-saving tools year after year, they forget that this is a powerful tool for creating long-term wealth. If chosen wisely, the annual mandatory investment of Rs 1.5 lakhs has the potential to meet children’s financial needs and/or one’s retirement savings and also save on income taxes!

Let’s understand this with an illustration: let’s say you’re 30 years old and you want to grow your wealth while saving on taxes. We take an investment period of 15 years and save under 80 C Rs 1.5 lakhs annually.

instrument Investment amount over 15 years* Investment value* multiplication factor after-tax value*
5 years FD 22.5 36.53 1.64 32.15
ELSS** 22.5 84.6 3.76 78.30
PPF 22.5 40.20 1.79 40.2
ULIP** 22.5 47.65 2.12 47.65

*Prices are in lakhs **Returns accepted

So be different this year and be informed as you choose your tax savings and most importantly make sure they pay off! The choice of investment will certainly depend on individual needs and requirements. It’s worth discussing the same with your financial advisor, who can advise you based on your financial goals and other parameters.

Cheers to an informed investor!

(The author is Money Coach & Financial Strategist CFP. The views expressed are personal and do not reflect the official position or policies of Financial Express Online. Reproduction of this content without permission is prohibited).

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