Anamika Pareek explains the advantages of investing in tax-saving options like equity-linked savings schemes.
When you do your tax planning well in advance, you have more time to choose suitable tax savings investment options based on your investment needs and risk appetite.
If you are investing in equity linked saving schemes, you should take your time to check the track record of the fund and the fund manager over different investment periods.
You should select a fund that has outperformed its benchmark index over long investment tenures.
- Ask your tax and personal finance-related questions HERE.
What Is Tax Planning?
Financial planning to efficiently pay taxes conforming to the existing tax laws and rules but, at the same time, taking advantage of the deductions and exemptions allowed by the government to reduce the tax burden is called tax planning.
Advantages Of Tax Planning
- Reducing tax liabilities: By utilising the various benefits allowed by the Income Tax Act of 1961, a taxpayer can reduce the burden of taxes and utilise the funds so saved in planning for future needs.
- Avoiding penalties and interest: Taxpayers may have to incur penalties or interest if they are unable to pay their tax liabilities before the last date for filing of income tax returns.
- Wealth creation: By proper allocation of the investment portfolio towards tax-saving instruments, an investor can create wealth over long investment horizons.
Different tax savings investment options have different risk/return characteristics. - Liquidity: Liquidity should be an important consideration in making investment decisions.
Some tax savings schemes are much less liquid compared to other tax savings schemes. By factoring in your future liquidity needs, you can make informed investment decisions. - Make tax efficient investment decisions: Different tax savings schemes have different tax implications.
Through judicious tax planning, you can make tax efficient investment decisions.
How To Plan For Tax?
As per the old tax regime, ELSS with a lock-in period of three years are instruments that can qualify for a tax deduction for individuals and HUF.
Section 80C of the Income Tax Act offers a tax deduction of upto Rs 150,000 of one's gross total income for the fiscal year through investments in ELSS.
This can amount to a total savings of Rs 46,800, assuming that the assessee falls in the highest tax bracket and pays @30 per cent tax plus the four per cent education cess.
It is pertinent to note that ELSS has the dual benefit of providing potential for wealth creation as well as tax saving under Section 80C.
The Best Time To Start Tax Planning
The best time to start planning for your taxes is at the beginning of the financial year.
Investors often wait till March 31, the last date of the financial year, to quickly invest a lump sum in ELSS and claim the deduction under Section 80C.
This is a wrong approach for several reasons as enumerated below:
1. Starting the tax planning process at the beginning of the financial year helps to align the investments with your financial goals.
Your plan should include all the deductions available as per the income tax laws so that you can save the maximum amount of tax.
2. Investment in tax planning instruments should not be for tax saving alone.
These investments can help with wealth creation so that you can realise your long-term goals.
So, the later you start investing in ELSS, the longer it will take for you to build up the corpus that is required for your long-term goals.
3. Delaying the investment in tax-saving instruments till the last moment places a heavier crunch on your salary than if you were to start investing from April onwards.
Assuming that you are in the highest tax bracket, you would need to invest Rs 12,500 in ELSS SIPs per month to reach the permissible deduction of Rs 1.5 lakh by the end of the financial year.
At times, this could actually prevent you from being able to claim the deduction as you may have other pressing expenses.
4. Many companies have their internal deadlines of submitting tax saving investment proofs well before the March 31 timeline.
If you wait till the last minute, you may see a large TDS deduction in your pay slip in February or March.
5. Planning for tax at the last minute could also lead to hurried and miscalculated or erroneous decisions that may cause you to lose out on the benefits allowed under Section 80C.
6. When you do your tax planning well in advance, you have more time to choose suitable tax savings investment options based on your investment needs and risk appetite.
Like I mentioned earlier, if you are investing in ELSS, you should take your time to check the track record of the fund and the fund manager over different investment periods.
You should select a fund that has outperformed its benchmark index over long investment tenures.
Consult with your financial advisor or mutual fund distributor if you need any help and start your tax planning journey well in advance before the March-end madness.
- Ask your tax and personal finance-related questions HERE.
Disclaimer: You should consult your financial advisor or mutual fund distributor regarding your tax planning and discuss if ELSS is suitable for your tax planning and long term investment needs.
Mutual Fund Investments are subject to market risk, read all scheme related documents carefully.
