It’s the month of March and for most working professionals it’s the time to hustle and save taxes. The financial year in India is applicable from April – March, but mosttax savers rush to save taxes only in the final few days of the year.Tax planning is an important exercise which should be considered as a part of an individual’s overall financial plan. , the deadline pressure of rushing to save taxes at the last moment can not only throw an investor’s cash flow out of order but can also lead them into picking a substandard investment option.
In order to avoid this conundrum, an investor should plan their taxes at the beginning of the year and avoid any last-minute investment decisions. This helps not only allocate money in a phased manner but also helpspick the best investment solution.In India the tax saver has many options under section 80C of Income Tax Act available at their disposal and hence it can sometimes lead to an inability to pick the best one. Section 80 (C) of the Income Tax qualifies certain instruments as being tax deductible uptoRs 1.5 lakh, which means that any investment of uptoRs 1.5 lakh in these instruments, in a given financial year, can help lower an individual’s taxable income bracket.
Some of the popular options available are 5-year Bank Fixed Deposit (FD), Public Provident Fund (PPF), National Pension Scheme (NPS),National Savings Certificate (NSC) and ELSS mutual fund. It is important that an investor analyses each of these instruments on various parameters in detail before deciding to allocate their investment.
5-year Bank Fixed Deposit (FD):A 5-year Bank Fixed deposit works like any other fixed deposit parked with a bank. The major difference compared with traditional fixed deposits is that it will be eligible for tax savings under section 80C and comes with a lock-in period of 5 years.The interest earned from these fixed deposits is added to an individual’s taxable income and is taxed as per their respective tax slabs.
Public provident Fund (PPF): APPF scheme is an investment option which offers a fixed rate of return as decided by the central government. A PPF account can be opened with either a Post Office, any nationalized bank or some private sector banks as notified by the National Savings Institute, an arm of the Ministry of Finance.The interest earned on PPF is tax-free and the rate of interest is re-set quarterly. Historically, the nominal rate of return has been in the range of 7%-8% and it doesn’t take into account inflation. This makes the real returns earned by the investor in low single digits.
National Pension Scheme (NPS): The NPS invests in a pension account at regular intervals during the course of a tax payer’s employment. After retirement, the subscribers can take out a certain percentage of the corpus in a lump sum manner and the remaining amount can be withdrawn as a monthly pension post retirement.On maturity, one can withdraw up to 60% of their accumulated corpus from their NPS account, of which 20% is taxable. While NPS has a probability of earning higher returns compared to other tax saving instruments, it is not tax-efficient upon maturity.
National Savings Certificate (NSC): The National Savings Certificate is a fixed income investment scheme that you can open with any post office. It is a Government of India initiative and is aimed at encouraging investors to invest while saving on income tax. The interest earned on NSC is taxable. However, as it is a cumulative scheme (e.g. interest is not paid to the investor but instead accumulates in the account), each year’s interest is considered reinvested in the NSC. Since it is deemed reinvested, it qualifies for a fresh deduction under Sec 80C, thereby making it tax-free. Only the final year’s interest, when the NSC matures, does not receive a tax deduction as it does not get reinvested, but is paid back to the investor along with the interest of the earlier years and the capital amount.
ELSS Mutual Funds: An Equity Linked Savings Scheme (ELSS) is an instrument where the investment is in a basket of stocks which is actively managed by a fund manager. ELSS Funds has a lock-in period of 3-years, the lowest among all tax-saving instruments. As the underlying investment is in stocks, the probability of earning inflation-adjusted returns is higher. The tax treatment is also favorable as capital gains made only above Rs. 1 lakh in a given financial year attract a nominal tax rate of 10%. Hence, ELSS comes with a dual advantage of qualifying for the section 80 (C) tax benefit as well as wealth creation. However, investorsmust remember that since ELSS invests inequities, they must stick with an ELSS for a long time as equities generate higher returns and create wealth only over the long-term.
An investor needs to analyze all of the above instruments carefully before zeroing in on an instrument of their preference. The basis for selection should be based on their risk appetite and their financial goals. The below table compares each of these instruments and highlights the difference.
|Instrument Name||Lock-in period||Return expectation||Corpus Withdrawal Option|
|ELSS Mutual Fund||3 years||Market linked||Fully|
|5 Year Bank FD||5 years||Assured return||Fully|
|PPF||15 years||Assured return||Partially|
|NPS||Till retirement||Market linked||Partially|
|NSC||5 & 10 years*||Assured return||Fully|
*Investors have the choice to choose from the two lock-in period
Prudent tax-saving can help investors not only lower their tax liability but also to generate wealth for the future. This is where an ELSS scores above other tax-saving investments. These funds invest primarily in the equity market in a diversified manner, which gives investors a good opportunity to earn inflation-adjusted returns and build a large corpus. With benefits such as lowest lock-in period and full amount withdrawal option, ELSS scores handsomely over other tax-saving instruments. It would also be ideal if an investor can spread out their investments during the year rather than rushing at the last moment to invest. An ELSS mutual fund also gives an investor the option to invest via the SIP (Systematic Investment Plan) route which helps inculcate the habit of disciplined and consistent investing.