Three endowment policies, two whole life insurance, and two ULIPs, shouted out a new financial advisor in a surprise to Abhijeet. Abhijeet is a project manager in a software company and like many of his friends, he rushes to save taxes at the last moment. The result is duplicate policies, unnecessary investment in assets, which do not serve any purpose and buying instruments, which give least returns.
Every year between January and March, investment in mutual funds, insurance and tax saving instruments shows maximum growth. People rush to invest in these three months. Clearly, the reason is to save taxes, which are available for specific types of investments. In the rush, many people make wrong choices. Abhijeet is just one example. Here, we will discuss some tips to save taxes and avoid the last-minute rush to save taxes temporarily only to lose out in the long term.
Plan early
Paying taxes is an annual ritual that we all have to do. You need to plan much before the last quarter of the year. The planning should include your insurance and investment requirements.
Understand products
You don’t have to buy insurance products that yield a low return to save taxes. There are better investment products, which fall under the tax saving clause. For example, Equity-Linked Saving Scheme (ELSS) is a good product that can give excellent returns over the long-term. This is linked to market and hence investors should understand that they have to look for long-term returns as the market fluctuates in the short-term.
Are infra bonds better?
Your tax advantage depends on the tax bracket your income falls into. For example, many salar-ied employees rush to invest in infrastructure bonds without considering the real benefit it brings to you. While infra bonds are good for people falling in the highest tax bracket, it is comparatively less lucrative for
people in 10 per cent and 20 per cent tax bracket.
Suppose a salaried individual earns between Rs 1.8 lakh and Rs 5 lakh. The tax rate on this income is 10 per cent. Hence, buying infra bonds worth Rs 20,000 will save him tax of Rs 2,000 (10 per cent of Rs 20,000). Most bonds give a return of eight per cent to 8.5 per cent, with a lock in period of three to five years.
If you buy bonds, which gives 8.5 per cent returns, with a five-year lock-in period. Hence if you fall in 10 per cent tax bracket, your effective interest earned on infra bond will be 7.7 per cent. The interest received from infra bond is taxable. So you have the following returns:
Taxes saved: Rs 2,000
Interest earned over the lock in period of five years: Rs 8,913
Total benefit: Rs 10,913.
Value of investment after five years: Rs 30,913.
This means the compounded annual growth rate of return (CAGR) is 9.1 per cent. This is certainly a good return but considering inflation and other aspects, tax payers can get much better retu-rns than this by investing in equity-oriented mutual fund or balanced fund.
joint home loan
It is always better to take a joint home loan with your spouse as both of you can claim taxation benefits. Both you and your spouse can claim Rs 1 lakh in principal and Rs 1.5 lakhs on interest. So the combined tax benefit is Rs 2 lakh on principal and Rs 3 lakh on interest.
pay rent to parents
If you are living in your parents’ home, you can pay them rent so that you can save taxes on HRA. At the same time, if your parents are retired and do not earn enough to fall in to any tax bracket, they will not pay any tax on it.
loser stocks can help
If you have stocks, which have lost money and you do not see any hope of such stocks going up, you can use them for saving taxes. Short-term capital loss can be used against short-term capital gain to save taxes. For ex-ample, if you lost Rs 50,000 in stocks two years ago and made Rs 50,000 in the current year, your tax liability in short-term capital gain will be zero.
However, you need to be careful while booking the short-term losses. If the company is excellent and the stocks have come down as a result of market crash or temporary conditions, you should not book losses.
Similarly, you can use bonus shares to reduce your short-term liability. For example, if you buy 100 shares of stock A at Rs 800 apiece. After some time, Company A declares bonus shares in the ratio of 1:1. This means you will have 200 shares.
Ideally, the market price of the shares will reduce in the same ratio. Hence, the new price will be Rs 400. So if you sell 100 shares, the system will assume that you are selling original 100 shares, which were bought at Rs 800. Hence, you book short-term loss of 100 X Rs 400 (Rs 800 — Rs 400) = Rs 38,000. This amount can be used to offset your short-term gain in the current year or in the future.
Tax saving is not difficult if you plan properly. There are enough legally permissible ways to save taxes.