Investing is serious business and you should research a financial product in detail before investing money in it. More importantly, tax-saving investments should be part of an individual’s overall financial plan. Invest in ELSS funds if your portfolio requires equity exposure. Buy an insurance policy if you need life coverage. Put money into the NPS if you’re saving for retirement. Choose PPF if you need to invest in long-term fixed income securities. Invest in NSCs or tax-reducing fixed deposits if you need your money back quickly. “Your tax-saving investments should align with your long-term investment goals,” says Amit Maheshwari, tax partner at tax consultancy AKM Global.
Choose investments that suit your needs
In addition to tax savings, all these instruments meet specific needs of the financial portfolio.
But it is not possible to assess the suitability of an investment if you spread your tax planning over a few weeks of the fiscal year. For example, ELSS funds have become popular among taxpayers over the past 10 years, but you should focus on the most promising scheme. There is a very wide variation in the performance of ELSS systems. Over the past three years, the top performing Quantitative Tax Plan has grown at a blistering rate of 38.27%, while the worst performing Aditya Birla Sun Life Tax Relief 96 has grown at a snail’s pace of 9.41 %. The difference is too clear in absolute terms. Someone who put Rs 1 lakh into Quant Tax Plan in April 2019 saw their investment more than double to Rs 2.64 lakh in three years, while an investor in Aditya Birla Sun Life Tax Relief 96 sits with only Rs 1.3 lakh.
The other problem is that last minute tax planning loses the SIP advantage. ELSS funds are equity plans and carry the same risks as any equity fund. In fact, the risk is greater because you can’t get out for three years. Jaipur-based Roshan Aswani (pictured) invested in ELSS funds for equity exposure. ELSS funds represent nearly 40% of its equity portfolio. Some of these investments are almost 10-12 years old. “The lockdown is long gone, but I haven’t opted out of these programs because my portfolio needs exposure to equities. I want to stay invested for the long term,” he says.
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What are the smart ways to invest in ELSS mutual funds?
In picture :
Roshan Aswani, 39, Jaipur
Invested in ELSS funds for 10 years to save tax. He does not redeem the funds even after the lock-up period ends because he considers the ELSS funds as the equity part of his overall portfolio.
“ELSS are action programs, so I want to stay invested for the long term.”
Don’t Buy Insurance in a Hurry
ELSS funds have a very short lock-up period of three years. They also don’t compel investors to continue investing if they are unhappy with the returns. But life insurance policies are a different ball game. A life insurance policy is meant to cover the risk of premature death and protect the financial goals of the individual in case something untoward happens to them. Buying a policy without understanding its features or assessing the extent of coverage you need is the worst way to buy life insurance. Yet thousands of insurance policies are sold in February-March, with buyers blindly signing at specific places on the application form.
When buying life insurance, assess how much insurance you need. A rule of thumb is to purchase coverage for at least 8-10 times your annual income plus any large borrowings. For someone with a salary of Rs 1 lakh per month, this represents life insurance coverage of around Rs 1-1.2 crore. Add to that an outstanding loan of Rs 30 lakh and the total insurance required is Rs 1.5 crore. It is unlikely that the insurance policies peddled by bank agents and representatives could offer such huge coverage without pushing the premium into the stratosphere. But a term insurance policy can provide Rs 1.5 crore cover to a 30-year-old for as little as Rs 12,000 a year. No bank representative will offer you temporary cover, and no agent will try to sell you one because the commission is very low.
Changing tax rules for the Provident Fund deprived high earners of a lucrative tax-free avenue. Such investors should consider putting money into Ulips where the income will be tax-free if the premium is less than Rs 2.5 lakh per annum. But only buy a Ulip if you already have enough life insurance and can continue with the policy for the full term. Most importantly, understand the fees and features of the policy before signing up.
Just like life insurance, you also need to understand the features of your health plan in detail. Check your plan’s exclusions and limitations, as well as the extent of coverage it offers. Unfortunately, many buyers view health insurance from a tax deduction perspective and buy coverage with a premium of only Rs 25,000. But over the past couple of years, many buyers have realized that a medical cover of Rs 3-5 lakh can be woefully insufficient.
Fixed income investments
Investors who do not have a high risk appetite should consider fixed income instruments for their tax planning. The PPF is a great instrument with several advantages. Given the cash it provides, taxpayers like the Kolkata-based CPA Tilotama Gourisaria use the PPF as an emergency fund that they can withdraw from in times of dire need.
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Tilotama Gourisaria, 35, Kolkata
Has contributed to the PPF for 12 years and has built up a substantial body of work. Although concerned about the lower interest rate of the PPF, she continues to stick to it due to the exempt-exempt-exempt status.
“Although I started investing in the PPF to save tax, it is now my emergency fund.”
While ELSS investments should be staggered in monthly SIPs, it is best to invest in fixed income options all at once. This is not always possible given the cash flow of the salaried household. Nevertheless, invest as much as possible at the beginning of the year to take advantage of compounding. When investing in PPF, be sure to do so before the 5th of the month so you don’t miss out on that month’s interest.
Saving for retirement
Many tax-saving instruments are intended for long-term savings. The NPS can reduce tax in three ways. Contributions to NPS are covered by the block deduction of Rs 1.5 lakh under Section 80C. If a taxpayer has already exhausted this limit, he can benefit from the additional deduction of Rs 50,000 under Article 80CCD(1b). The last one is a super tax saver. If the employer contributes up to 10% of the individual’s base salary into the NPS, this amount will not be taxable.
How NPS funds have performed
Average returns of the four NPS fund categories.
For example, a taxpayer with a basic salary of Rs 1 lakh can choose to put Rs 10,000 into the NPS every month (Rs 1.2 lakh per year). This can reduce his tax by almost Rs 37,500 per year. The NPS can also be used by independent taxpayers like Anil Jajoo to reduce taxes. He is using the low-cost scheme to save for retirement and reducing his taxes and plans to transfer his superannuation fund from his former employer to the NPS. “The ultra-low costs of the NPS allow for higher returns than mutual funds can give,” he says.
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Anil Jajoo, 53, Ghaziabad
He quit his job four years ago and is using the NPS to fatten his retirement corpus. Jajoo puts Rs 50,000 into the scheme every year and plans to transfer his superannuation fund from the former employer to the NPS.
“NPS’s low costs allow for higher returns than mutual funds can offer.”