Income Tax

A Discourse on Tax Planning Strategies

Introduction  

Every assessee thinks how it can take the maximum possible advantages from the tax benefits offered by the government. This piece of writing is a discourse on some of the major tax planning strategies which can be adopted by an assessee to make the best use of the tax benefits offered by the government.

What are some of the tax planning strategies for investors

1. Devise a staggered investment plan

As soon as the calendar year ends and the financial year seems to be on the other end on 31^st March. The offices start sending notices to the employees asking for their tax-saving investments. This makes the assessee to squeeze in the entire years’ tax-saving investments into three months. This causes a huge drain on the assessee’s budget. The assessee is deprived of the luxuries and indulgences and is made to spend the next three months on a tight budget.

A staggering investment plan is one where an investor plans his investments in a systematic manner throughout the year or different stages of his life so that he is in a situation to make best use of his investments.

If an assessee continues to invest systematically and regularly throughout the year, then not only would he have a better grip on his finances but the size of their investments will also be huge.

For instance: If an assessee invests an amount of Rupees 5000 every month to the tune of 60,000 in a tax saving Mutual Fund^[1] scheme which gives a return of 12% in a year and investment. If the same amount of Rupees 60,000 is invested in a period of three months i.e. January, February and March, then the return on investment received would be less than Rupees 2700 compared to the former method of investment.

One of the ways to disciplined investing is possibly in an equity-linked savings scheme (ELSS) is through a systematic investment plan (SIP).

• Make affordable annual commitments

Making suitable commitments on an annual basis is also one of the tax planning strategies where the assessee commits only that amount of money which he can easily pay without disrupting his essential needs and also for a product or service which he actually needs.

For example, as February arrives, a team of salesmen and agents become very proactive and try to sell their products to these assessees on the pretext that it will save them a great deal of tax. There are high chances that such assessees fail to resist the temptation and fall into such trap.

Such assessee should question himself whether he actually needs the product or not. He should question himself whether in the quest of saving Rupees 3000 annually, is he getting trapped into paying Rupees 10,000 every year and that too for a policy which he does not require.

The assessee in such cases must ask himself whether he will be able to commit that Rupees 10,000 every year. This tax planning strategy asks the assessee to ensure whether he will be able to sustain his investment on long term tax saving plans. 

• Purchasing insurance products that are actually necessary

Another tax planning strategy is that the assessee does not make sure whether he actually needs a insurance cover or not. The decision to take an insurance plan is primarily taken on the basis of saving taxes and later for the purpose of security. It is indeed true that an assessee can claim tax benefits under section 80C of Income Tax Act, 1961 on the premiums paid for the life insurance policies and under section 80D on premiums paid on health insurance plans. However, if an assesee is already insured then insurance fails to become an ideal tax savings tool.  

If the assessee cannot afford to pay for the premium amount annually, then it does not make any sense to take such a plan which the assessee will not be able to continue over long time periods.

• Understanding the income generate after taxes

One of the most ignored tax planning strategies is understanding the net income yield after deduction of taxes. For instance, a person has an option to invest an amount of Rupees 10,000 and he has two options of investment. In one investment scheme, the returns are 10% and another investment scheme gives returns at the rate of 7% per annum. The person for obvious reasons finds the scheme with 10% annual returns more appealing than the 7% annual returns one.

But a smart investor always checks first whether such scheme gives returns on a tax-free basis or whether taxes will be deducted on such returns.

There was a time when interest earned up to 12000 was exempt under section 80L but when such section was scrapped by the government, the interest earned fixed deposits and NSCs was clubbed with the annual income which was taxed as a whole. Therefore, it is always suggested as a sound tax planning strategy not to get lured by higher returns but check the tax implications on them.

A suitable area to make investments would be Public Provident Fund (PPF), where the interest on the income is not taxed or in Ulips or those Mutual Funds schemes whose interests are tax free.  

• Investment in a long term debt plan  

Another important and highly ignored tax planning strategy is the investment in long term debt plans such as PPF where the investor can take best advantage of withdrawal option that it offers. Once the investor has withdrawn the maximum tax free amount after 7-8 years, the same amount can be reinvested in an ELSS or similar instrument.  

• Taking advantage of the dual income

In case of couple having dual sources of income and especially when both fall under different tax brackets, the person who is in the higher tax bracket can make the most of investment for taxes from such higher income. This leads to payment of lower tax rate on higher income. The couples who have a child can contribute Rupees 35,000 every year to the maximum limit of PPF contribution for their child. This money after a period of 15 years can be used to meet the child’s higher education expenses.   

Conclusion 

It can be concluded from the above mentioned discussion that an investor should always adopt tax planning strategies wisely keeping in mind their utility and their actual need. The investor should always have a well planned, systematic, regular staggered investment plan, should make investments according to their needs and paying capacity, invest in long term debt plans after understanding the past tax yield of an investment scheme.

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