Investing to save tax is something that most of us do as a habit. But what we do not realise is that many a times we are investing to "only" save tax, when a lot more can be accomplished with the same amount of money.
Here we discuss how this is possible:
At the start of your career, when you are still 'care free' and the near-term needs are limited, you should consider taking on maximum risk to grow your money. Every Rupee you invest wisely today is worth more than the Rupee you invest tomorrow.
So when you are planning your taxes, allocate a higher portion to risky assets like tax-saving mutual funds, which invest all their money in the stock markets. Of course, you need to take care that you select the right funds. This is because the fund management styles of various tax-saving funds are different.
Some are aggressively managed, others are more conservative. So, you need to pick up a fund that suits you the best. Also, remember, there is a lock-in of 3 years.
With respect to the other avenues, the Employees' Provident Fund (EPF) is something that is compulsory for salaried individuals, so there is no option there. You can consider putting in some money in the Public Provident Fund (PPF), where again you need to be aware that the return offered is not fixed but is subject to annual revision.
Also, the scheme has a 15-Yr duration; so if you need this money say 5 years from now, the PPF may not be the best place to put all your money.
The most important instrument that you should consider adding to your portfolio is life insurance. At a young age, insurance is extremely cheap. The insurance we are referring to is 'pure risk' insurance or term insurance as it is called.
These policies are generally not very popular as the payouts are made only in case the policyholder passes away. If he lives through the tenure of the policy, there are no payouts. While most people consider this to be a bad investment, in our view, it is the best.
Term insurance is really cheap (a person in good health aged 30 years, can buy a term insurance plan from a reputed insurer of Rs 10 million with a 30-Yr tenure, for an annual premium of just Rs 3,430). As is evident term insurance is really cheap. If you were to however buy a savings based policy (which has a payout at the end of the maturity of the policy), the comparative premium would be Rs 29, 820 per annum!
When buying term insurance, go in for the maximum tenure. This will ensure that your dependants are adequately provided for a considerably longer tenure, at a relatively low cost.
- Click here to download The 2007 Guide to Tax Planning
You must own the property you live in -- the earlier, the better. Alternatively, you should own a property which will ultimately serve as your residence. It's a necessity. How you can save tax while satisfying this need is by part financing the property by taking a home loan.
The home loan repayment, every month, consists of two portions -- the interest payment and the principal repayment. Both the interest component (up to Rs 150,000 per year) and principal repayment (up to Rs 100,000 per year subject to an overall limit of Rs 100,000 under Section 80C) carry significant tax benefits.
If you are in the highest tax bracket, and have taken a loan at 10% per annum, your effective cost of the loan will be less than 7% per annum!
So, at the start of your career, try and make a portfolio that will not only save you tax but also contribute significantly towards creating wealth in the future; and of course, the term insurance will provide for your family in case anything were to happen to you.
Asset allocation table
|
Age (Years) |
Life insurance premium |
EPF |
PPF / NSC |
ELSS |
Total |
|
< 30 |
10,000 |
20,000 |
20,000 |
50,000 |
100,000 |
|
30 - 45 |
10,000 |
30,000 |
25,000 |
35,000 |
100,000 |
|
45 - 55 |
10,000 |
35,000 |
30,000 |
25,000 |
100,000 |
|
> 55 |
10,000 |
- |
65,000 |
25,000 |
100,000 |
The table above lists an indicative asset-allocation plan for individuals across various age groups. As can be seen, as you grow older, the allocation has to change in favour of the low-risk instruments.
However, it should be understood that the table is only indicative; at Personalfn we have met clients who are in the higher age brackets but have a large appetite for risk (as their near term needs are provided for). Hence, you must involve your advisor in the tax-planning exercise.
Investing to save tax is something that most of us consider easy-to-do. Well, in a way it is. Any investor can invest to save "only" tax. But what will make you a smart investor is the fact that you not only saved tax, but also achieved other financial goals that you had set for yourself.
Here are some do's and don'ts that will guide you in preparing your asset allocation for tax-saving instruments:
- Do not follow conventional methods of saving tax blindly; in present times there are a lot more options available which can serve your purpose better
- Do not invest in an ad hoc manner; work out an asset allocation that is best suited to not only saving tax but also helping you realise your other financial goals
- Do employ the services of a financial planner, who is both competent and credible; financial planners can help you put your entire asset allocation in perspective and also help you structure the same in a manner that is best suited to meeting your financial goals.
- Do spend time when deciding to invest your money, be it for tax-saving or any other purpose.
Personalfn.com, a financial planning initiative. It can be reached at info@personalfn.com. Personalfn.com also publishes a free-to-download financial planning guide, Money Simplified. To get a copy of the latest issue - How ULIPs fit in - please click here.
