Taxable investments suit those who are in the lower tax slabs over those who pay the tax rate at the highest rate.
Tax Saving Options: For the income earned in the financial year 2020-21 or assessment year 2021-22, the taxpayers will have two options to file the income tax return (ITR). The ITR can be filed as per the existing tax rates and income slabs or one may choose to opt for the new tax regime (NTR). In the NTR, one is not allowed to take benefit of any of the major exemptions or deductions available in the Income Tax Act. However, anyone who wants to stick with the old tax regime will continue to enjoy the exemptions or deductions such as Section 80 C, Section 80 D, Section 24 etc. But, within the tax saving options, there are certain taxable as well as tax-free investments.
For those with income between Rs 2.5 lakh and Rs 5 lakh, one needs to pay a tax of 5 per cent, while on higher-income between Rs 5 lakh and Rs 10 lakh, one needs to pay a tax of 20 per cent. Even though lowest slab taxpayers may not need to save much tax, even if they need to, the fixed-income taxable investments suit them over those paying the highest tax rate of 30 per cent.
Amongst the tax-saving investments, there are a few investments such as NSC, 5-year bank fixed deposit, 5-year post office time deposit, Senior Citizens’ Savings Scheme (SCSS). What differentiates them from PPF, EPF or insurance plans is that the interest or the return earned in them is not tax-free. The returns in PPF, EPF or insurance plans including Ulips are tax-free in the hands of the taxpayer.
Currently, the interest in fixed income tax savers is low. If the interest earned is taxable, the post-tax return in taxable tax savers comes down even further. If the interest rate on the taxable investment is 6 per cent, the post-tax return for different tax rates, including cess, are:
- For 5 per cent tax rate: 5.7 per cent
- For 20 per cent tax rate: 4.8 per cent
- For 30 per cent tax rate: 4.1 per cent
- To calculate the post-tax return, you can use the following formula:
Post-tax return = IR– (IR * TR)
Here, IR is the rate of interest and TR is the tax rate.
Therefore, at 6 per cent interest rate for someone paying 5.12 per cent tax, the post-tax return is
= 6 – (6 * 5.12%) = 5.7 per cent
Therefore, taxable investments suit those who are in the lower tax slabs over those who pay the tax rate at the highest rate. So, where should lower tax rate individuals invest? “Fixed deposits in banks eligible for deduction under Section 80C are good and safe investment options in these uncertain times. 20 per cent of the investments should also be done in Life insurance products which provide retirement benefits and also protect the family from the sudden death of the earning member. A Mediclaim insurance should mandatorily be done. The premium paid is available as a deduction under Section 80D,” says Vivek Jalan – Partner at Tax Connect Advisory services LLP.
Investment in tax saving products such as NSC, 5-year bank fixed deposit, 5-year post office time deposit suits those in the lower tax slab. However, they may not help one to create wealth over the long term as post-tax and after inflation, the returns are low. They should primarily be used for keeping capital safe for short to medium-term goals.