Tax planning must involve selecting a right mix of debt- and equity-related instruments for higher long-term returns
With less than a month left for the financial year to end, many taxpayers would be looking at tax-saving investments. While tax planning should be done at the beginning of the year, let us look at some of the popular and easily accessible investment options and their respective tax benefits and potential rate of return.
Life and health insurance
A term life insurance plan and a comprehensive health insurance cover can help to protect one’s family in the long run. Individuals will get tax benefit on premium paid for a term cover under Section 80C of the Income Tax Act (one can invest in Public Provident Fund, equity-linked savings scheme of mutual funds, unit-linked insurance plans, pay life insurance premiums, employee’s contribution to provident fund, and get tax deduction of up to Rs 1.5 lakh in a financial year). A policyholder can customise the term plan to include critical illness cover, which will qualify for tax benefit under Section 80D.
Premium paid for a health cover for self, spouse and dependent children will qualify for tax deduction of up to Rs 25,000 in a financial year under Section 80D. Also, one can get a tax reduction of Rs 5,000 on preventive health checkups under the overall limit of Rs 25,000. Health insurance premium paid for parents will also qualify for tax deduction of up to Rs 50,000 in a financial year.
NPS to build nest egg
The National Pension Scheme (NPS) is an ideal investment tool for retirement planning as it enables individuals to accumulate a retirement corpus by investing regularly and receive a fixed monthly payout on purchase of annuity from a life insurance. Under Section 80CCD, there are two ways to get higher tax benefits in NPS—employer contributions to your NPS account and self-contributions. Under Section 80CCD (1), a government or a private sector employee who contributes to the NPS will get deduction of 10% of the individual’s salary (basic + DA) or 10% of his gross income. However, self-employed individuals will get a deduction of 20% of gross total income, with a maximum limit of Rs 1.5 lakh in a financial year.
Individuals can claim an additional deduction of Rs 50,000 under Section 80CCD(1B). Thus, the maximum deduction under Section 80CCD is Rs 2 lakh. Returns for private sector employees is 10-12% annually.
Mix of debt and equity
Equity-linked savings schemes(ELSS) offer an opportunity to earn higher returns in the long-term. These are open-ended funds and have a lock-in period of three years. Similarly, unit-linked insurance products of life insurance companies offer the advantage of life cover with an investment in equity and debt markets.
Public Provident Fund (PPF) is one of the most popular tax-saving instruments for building a long-term corpus. Currently, PPF gives a return of 7.1% per annum compounded yearly, and the returns are tax-free.
For risk-averse investors, five-year bank or post office fixed deposits is a better option for investment and tax. While the interest rate for five-year SBI deposits is 5.5%, the rate for post office term deposits is higher at 6.7% per annum. The interest earned from either bank or post office deposit, is taxable at marginal rate.