Tax planning will help you pay less income tax. Something everyone wants. But smart tax planning will help you boost your portfolio. The actual tax strategy will have a different meaning and emphasis depending upon an individual's personal circumstances.
1) Don’t view any investment in isolation.
Good tax management can go a long way toward enhancing your return. But the decision needs to be made in conjunction with your overall portfolio and not in an ad-hoc fashion.
Most individuals rarely think about tax planning from an investment point of view. Hence one finds that they do not approach an investment with a perspective of whether or not it fits in with their overall portfolio. The approach is often just grabbing up investments that will give them the tax break, irrespective of whether or not it will help them reach their determined financial goals or fit into an overall investment strategy.
Tax planning investments are no different from conventional investments. Hence, it is imperative to obtain an in-depth understanding of all investment avenues available which offer tax benefits and choose suitable ones that will help save tax and achieve goals.
Most investors in a crazy dash to meet their Section 80C requirement will opt for unit linked insurance plans, or ULIPs, and endowment plans and often end up with products that do not suit their need.
Life insurance should never be bought with the intention of saving tax. Tax saving is just one of the benefits that come along with it. The main benefit is the provision of finances in the case of death of the policy holder.
Approach tax saving with a holistic mindset. For instance, if your portfolio is heavily tilted towards debt, it would not be wise to opt for an investment in National Savings Certificate, or NSC. Instead, think of an equity linked savings scheme, or ELSS.
Which brings us to our next point.
2) Don’t limit tax saving to just fixed-return instruments.
Individuals tend to look at the Senior Citizen Savings Scheme, or SCSS, 5-year deposits, National Savings Certificate (NSC) and Public Provident (PPF) as the tax-saving investment avenues. But you can also invest in an equity linked savings scheme, or ELSS. These are diversified equity mutual funds that offer a tax benefit under Section 80C. They have the lowest lock-in period of just three years.
As on January 9, 2017, the ELSS category average delivered an annualised 3-year return of 18.52%. Do note, that was just the category average. The highest return was 27% while the lowest was 12%.
Having said that, keep in mind that these are equity funds which means, the return is far from guaranteed. So pick a good fund that has shown consistent performance and stick with it over the long haul. Don’t be in a tearing hurry to sell your fund units on completion of three years. Exit from the fund when the market is rallying so you walk away with a profit. If this means hanging on for a few more years, do so.
Do read: 3 don'ts when investing in ELSS.
3) Don’t ignore the big picture.
Tax saving is more than just investments and goes beyond Section 80C.
If you have made a donation to a charity that offers a tax deduction, avail of it. If you are paying premium on a medical insurance policy for yourself and dependents, be sure to claim the deduction.
Also, if you are servicing a home loan or an education loan, you are eligible for income tax deductions. Under Section 80C, you can even show the expenses of your child’s education to avail of a deduction.
When deciding how much to invest to max your deduction under Section 80C, take into account children’s tuition fees, principal repayment on home loan, contribution to employees provident fund (EPF), and any life insurance premium you are paying.