As we near the last quarter of 2020/21, here's a look at how best to review your tax savings and take steps, if needed, to add that extra bit of money in your pocket.
Individuals can save taxes either by investing in government-notified products or by claiming deductions or exemptions on certain type of expenses. When it comes to investments, the eligible products that give you deduction benefits are basically of two types - fixed-income investments and equity-related investments.
For fixed-income products, the minimum lock-in period is five years. The five-year tax-saving fixed deposit is available in most banks and post offices. One can invest up to Rs 1.5 lakh in a single financial year, and get deduction benefit under Section 80C. However, the interest earned on this deposit every year is not exempted from tax. Moreover, due to significant reduction in overall interest rates, tax-saving FDs are no more the best bets. Banks offer a maximum interest of up to 6 per cent, and IndiaPost 6.7%.
The second option in the five-year term is the National Savings Certificate (NSC). Similar to FDs, the maximum one can invest is up to Rs 1.5 lakh per financial year and claim deduction under Section 80C. Compared to bank FDs, NSC offers better annual return of 6.8 per cent.
"Tax-saving FDs offer periodic returns, while the NSC does not. Hence if regular returns are important to a person, tax-saving FDs would be better suited," says Suresh Sadagopan, Founder, Ladder7 Financial Advisories.
There are also long-term fixed income options that help you maximise your tax savings. Public Provident Fund (PPF) is one of the preferred choices in this category. The minimum tenure is 15 years. The unique thing about PPF is that it not only offers Rs 1.5-lakh deduction benefit under Section 80C, but the return is also completely tax-free. At 7.1 per cent, it offers one of the best annual returns among fixed-income products. For those with long-term life goals such as retirement or children's education, PPF is a must-have.
If you have a girl child, you can earn a high return besides saving taxes with the Sukanya Samriddhi Account (SSA). The current annual return on SSA is 7.6 per cent. However, the product has very limited mid-term liquidity option, so deposit only an amount not needed otherwise.
One of the most preferred products for regular income in this category is the Senior Citizens Savings Scheme (SCSS), which offers an annual return 7.4 per cent. The interest amount is paid quarterly. You can get deduction benefit under Section 80C for an amount of Rs 1.5 lakh invested in a financial year.
Another way of creating regular income is buying an annuity from a life insurance company. You can get deduction of up to Rs 1.5 lakh in a year. However, the return offered on most annuity products is not very competitive compared to other options. "In SCSS, the amount invested comes back to the investor after the tenure. In case of life annuities, one can only get annuities; the amount invested initially will only go to the nominee after the annuitant's lifetime," says Sadagopan of Ladder7 Financial Advisories.
Equity And Hybrid Investments
Those with higher risk appetite prefer equity for long-term investment since it has the potential to deliver high returns. The most preferred product that gives you the benefit of equity investment and tax saving under Section 80C is the Equity Linked Savings Scheme (ELSS). This mutual fund product comes with a lock-in period of three years.
The recent volatility in the equity market has had a big impact on the performance of ELSS funds, and the double-digit return has disappeared for most. According to Value Research, the five-year return for the category is 9.43 per cent, while the 10-year return is 9.5 per cent. So, in case you have invested in ELSS and it has completed its lock-in period, this may be the right time to review. "The relative performance of older ELSS investments needs to be compared against peer group while taking this decision. If the scheme that the investor has in his/her portoflio has underperformed its peer group and benchmarks, it should be redeemed and reinvested. If that is not the case and the scheme has outperformed its peer group and benchmarks, it is ideal to invest afresh since it is an automatic savings mechanism for investors to build their wealth," says Vishal Dhawan, founder, Plan Ahead Wealth Advisors.
The return on ELSS is no longer tax-free and is subject to long-term capital gain on gains above Rs 1 lakh in a given financial year. This is where Unit Linked Insurance Plans (ULIPs) have an edge since they provide tax-free returns beside deduction benefits on the invested amount. "Any sum received under the ULIP will be exempt from tax u/s 10(10D) if premium paid for any of the years during the term of the policy does not exceed 20 per cent of the sum assured in respect of policies issued on or after April 1, 2003 but on or before March 31, 2012," says Kapil Rana, Founder and Chairman, HostBooks Ltd. "For policies issued after April 1, 2012, thepremium paid or payable for any of the years during the term of the policy does not exceed 10 per cent of the sum assured," he adds.
When it comes to saving for retirement there is hardly any competitor to NPS. Beside the Rs 1.5-lakh deduction under Section 80CCD(1), you can enjoy an additional deduction of Rs 50,000 under Section 80CCD(1B). Central government employees can get Section 80C benefits even on their Tier 2 NPS accounts. However, this benefit will come with a three-year lock-in period.
The premium that you pay on life or health insurance also helps you in reducing the tax outflow. Life insurance premium falls under Section 80C, and you can claim a deduction of up to Rs 1.5 lakh on the annual premium paid. For health insurance, you can get a deduction under Section 80D for premium up to Rs 25000 if you are below 60 years of age. In case you are a senior citizen, the maximum amount goes up to Rs 50,000. You can also claim additional deduction in a similar way on the premium amount paid for your parents.
Expenses That Save Taxes
While investment is a conscious decision, there are expenses that can also make you eligible for tax deduction.
House Rent: House rent allowance (HRA) fetches significant tax benefits. The exemption benefit depends on your basic salary and place of work. For metros the maximum HRA is 50 per cent, while for other places it is 40 per cent. The HRA exemption is the minimum of actual HRA received, 50/40 per cent of the basic salary and the amount of actual rent paid deducted by 10 per cent of basic salary.
School Fee: "Section 80C allows any individual to claim income tax deduction of Rs 1.5 lakh on school tuition fees paid for any of his two children, including adopted and step children," says Geetanshu Bhalla, Mentor, The Virtual Compliance. It, however, does not apply to pre-Schools.
Charity: Donations for charitable purposes also give you deduction benefit. "Section 80G allows a deduction for all taxpayers for contribution to certain relief funds and charitable institutions specified by the Central government. There are four categories of funds/institutions that are registered under Section 80G and deduction is allowed according to the category," says Rana of HostBooks.
Donations to a notified fund such as the Prime Minister's National Relief Fund make you eligible for 100 per cent exemption without any maximum limit. For donations to specified funds such as the Prime Ministers Drought Relief Fund, the exemption limit is 50 per cent without any maximum limit. If you make a donation to approved funds, you can claim deduction to the extent of 100 per cent or 50 per cent with a maximum limit of 10 per cent of the total adjusted income. For cash contributions of more than Rs 2,000, deduction is not allowed under Section 80G.
Tax saving happens even through loan repayment.
Home Loan: For a home loan for a self-occupied property, you can claim up to Rs 1.5 lakh as deduction on the principal amount. Besides, you can also claim up to Rs 2-lakh deduction on interest payment under Section 24b. In case of let-out property, the tax benefit is only limited to the interest payment amount. You can also claim an additional deduction of Rs 1.5 lakh under section 80EEA on interest repayment for affordable housing this year.
Education Loan: If you have taken an education loan, you can claim unlimited deduction of interest payment. "The taxpayer can claim interest on education loan taken for himself or spouse or any children, including for whom the taxpayer is a legal guardian. The interest must be paid out of his taxable income," says Bhalla of Virtual Compliance.
Electric Vehicle Loan: This is a new deduction of Rs 1.5 lakh available under Section 80EEB on interest payment of a vehicle loan taken for electric vehicles.
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