What we should not do in tax planning !!

Last quarter of the financial year is known for tax planning. Salaried employees get the notices from their HR and deadlines to submit the proof of tax saving and we all rush to invest in tax saving instruments. In this urgency, sometime we just focus on tax saving without understanding the long term implications of that particular investments. Tax planning is very important as it helps to pay less income tax. Something everyone wants. But smart tax planning will help you boost your portfolio. The actual tax strategy will have a different meaning and emphasis depending upon an individual's personal circumstances.

1) Have a holistic picture not in isolation

Generally we think tax planning in isolation and not from an investment point of view. Hence the approach is often to grab up investments that will give them the tax break, irrespective of whether or not it will help them reach their 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.

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.

Approach tax saving with a holistic mindset. For instance, if your portfolio is heavily tilted towards debt, it would not be wise to opt for an investment in National Savings Certificate, or NSC. Instead, think of an equity linked savings scheme, or ELSS.

2) Tax saving is not just by fixed-return instruments.

Individuals tend to look at the Senior Citizen Savings Scheme, or SCSS (current interest rate 8.5%), 5-year deposits, National Savings Certificate (NSC) and Public Provident (PPF) (current interest rate 8%) as the tax-saving investment avenues. Looking at the current interest rate scenario where the interest rates are expected to fall further fix interest rates offering options are going to become further unattractive and investor should look at other options which can offer better yields.

Under section 80C we 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 of January, 2017, the ELSS category average delivered an annualised 3-year return of 18.5%.  Scheme wise the highest return was 27% while the lowest was 12%.

However we should keep in mind that these are equity funds which means, the return is not guaranteed. So select 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 the investments just because it has completed the mandatory three years. Exit from the fund when the market is rallying or you actually need the money so you walk away with a profit. If this means hanging on for a few more years, do so.

3) Its not just 80 C, Don’t ignore the big picture.

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 under section 80G, avail of it. If you are paying premium on a medical insurance policy for yourself and dependents, be sure to claim the deduction under section 80D.

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 under section 80E and interest on home loans can get exemption under section 24E.

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 (EPF), and any life insurance premium you are paying and then decide the remaining amount to be invested and plan it accordingly.

Finally

As an investor/tax payer, by smart investment planning we can convert the tax savings compulsions to wealth creation opportunities. For that we have to just go beyond the traditional option and look at all the options with the clear objective in mind.