Apart from the lure of getting better returns, tax saving has been a key objective of making investments as well as buying insurance products in India. However, with the Modi government’s recent move aimed at removing Income Tax deductions and exemptions gradually, many people — particularly the young generation — may get tempted not to save enough for their future, which may prove to be a financial harakiri for them.
Keeping this in view, what should you do? Should you gradually stop investing keeping in view the new tax regime or continue with your investments regardless of whether they will help you save tax or not?
Financial planners say that principles of investing and tax planning are very far apart and should not be mixed. Investments should be planned keeping in mind your goals, tolerance to risk and investible surplus. Tax planning depends upon your income level, type of earning and the prevalent tax laws. Goal of tax planning has to be to save as much tax as one can possibly do within the legal framework. Investment planning has to aim at maximising returns keeping in mind the risk profile of the investor. Hence, when the two are mixed, investments get directed towards tax-saving options regardless of whether they are suitable for the investor or not.
Also, “in many cases, attempts to save taxes result in money getting locked up in investments which cannot be liquidated when needed. This is because a majority of the tax-saving investment options have a lock-in period varying from 3 to 15 years. Hence, I think this move to gradually phase out tax incentives from various investment options is a welcome one. Ideally, investment planning should be done after you have ascertained the money available after paying taxes and meeting all your expenses,” says Ashish Kapur, CEO, Invest Shoppe India Ltd.
Let us also not overlook the ground reality of our society. From a nation of savers, we are slowly and steadily becoming a consumption-driven country. Traditionally our forefathers preferred frugality over extravagance. Many desires were curbed or postponed to ensure that family savings grew over the years and money was available for children’s higher education and other such priorities.
Over the years, however, our culture of savings has dissipated. The younger generation wants to live for the moment and spend all that they earn. Many of them are comfortable with leverage and borrow not just for housing, but also for their dream vacations and other aspirations. All that has led to a consumption boom, but at the same time the future security levels are going down. So far tax saving was one reason for millennials to invest at least a part of their earnings. With that incentive likely to get diluted, there is a real danger of a whole generation going through their productive years without having nest eggs. With nuclear families in vogue, this situation can lead to a big social security disaster in the future.
What is the best way forward, then, in this case?
“I believe that investments cannot be infinitely incentivised by tax savings. Hence, the move to slowly ebb them away is both necessary as well as irreversible. At the same time a social security net has to be built here through the recently-launched NPS as well as other initiatives. Every investment has a risk element attached to it. Investors need to be educated about this and need to be encouraged to secure their future through financial planning. No government can hand hold investors by offering them guaranteed products with tax benefits indefinitely. Investors have to gradually move towards taking their own risk management and investment decisions. Government certainly has to proactively encourage and help all investor education initiatives,” suggests Kapur.
Moreover, financial planning benefits need to be included in our school curriculum so that the next generation is well aware of the best way forward in securing their financial future. At the same time, surveillance systems with regulators need to improve further so that manipulations and malpractices are arrested and investors get the confidence to invest in the financial markets. In many ways, past few years have seen money move towards financial assets. This is an encouraging sign and needs to be further accelerated.
Which option to choose for near-term goals?
The above-discussed points are ideal for long-term planning. However, what to do currently for meeting one’s short-term needs and goals?
Financial experts say that at this point, there are two broad options before any tax-payer. One, remain in the old tax regime and continue tax-saving investments and insurance. Two, move to the new tax regime, forget about tax-saving, but keep a hawk-eyed focus on wealth creation and insurance. “In both the options, it is absolutely essential to keep investing as per life goals and insuring to protect against various life and health risks,” says Adhil Shetty, CEO, BankBazaar.com.
However, how do you pick between these two options? Here’s one suggestion: follow the 20% rule. Here’s how. Ask yourself this: if your income is between Rs 5 lakh and about Rs 20 lakh, can you get combined deductions of 20% of your gross income? If so, your tax outgo in the old regime will be lower than in the new regime.
So, let’s say your gross income is Rs 10 lakh. Under the old rules, your tax without deductions would be Rs 1.17 lakh. Under the new rules without deductions, your taxes are Rs 78,000. But under the old rules, if you deduct Rs 2 lakh (20% of your income) under various sections like 17(2)(viii), 80C, 80D and 24b, your tax dues fall to Rs 75,400.
“Even before you make tax-saving investments, you would be eligible for certain deductions such as Rs 50,000 as the standard deduction for salaried persons, EPF contributions, HRA deductions, children’s school tuition fees, eligible healthcare costs etc. These can be combined with any additional tax-savings. And as long as you can claim deductions of 20%, your tax outgo will likely be lower in the old regime. And to claim 20% deductions, you’ll have to invest and insure wisely,” says .
One of the best ways to enlarge your deductions is by having a home loan where you can get deductions under Sections 80C, 24b, and 80EEA of the Income Tax Act. You must also continue owning life and health insurance policies as per your family’s financial needs.