By investing year-round, you can avoid haphazard investments at the end of the year, and rather look at integrating it with your overall financial planning.
By Bhushan Kedar
Every March we see investors rushing to save taxes. This seems to have become par for the course – waiting for the last fiscal quarter (January-March) to make earnest tax-saving investments. And then, setting the tax alarm clock for the same season next year! Does this make sense?
A rational mind would disagree: first, last-minute investments can be indiscriminate, oblivious to one’s own risk-return profile and long-term investment objectives; second, one may not have sufficient funds to invest at that time, resulting in higher tax outflows. Tax planning should ideally be a disciplined part of year-round investments. Here we have highlighted the benefits of systematic and holistic tax planning through the year.
Advantages of year-round tax planning
Planning, after evaluating different investment options, leads to well-thought-out monetary outflows. Distribution of outflows across a period is easier on the wallet as well. Last-minute action often results in short savings or no investments at all, thus increasing the investor’s tax outflow. Among the various tax-saving investment options available under the Income Tax Act in India, most investors invest in traditional and safe bet (fixed returns) investments such as Public Provident Fund (PPF) and National Savings Certificate (NSC).
Investors willing to take some market risk may look at tax-saving mutual funds such as equity-linked saving scheme (ELSS). While the minimum lock-in period for ELSS funds to avail tax benefits is three years, investors with the risk appetite and investment horizon can invest for longer periods to derive optimum returns from the investment avenue. The ELSS category has returned 18% CAGR, on average, in the 10-year rolling period since June 2001.
Investing throughout the year inculcates discipline in investors. Regular investments allow investors to take advantage of compounding from the start of the year for fixed income investments. In case of investments in equity-linked tax-saving instruments such as ELSS, regular investments reduce the risk of timing the market (rupee cost averaging), while helping generate optimum returns from the asset class in the long term.
This can be done by opting for systematic investment plan (SIP) or systematic transfer plan (STP). SIP allows an investor to invest money in small lots at regular intervals. If an investor has lump sum money at any point of time during the year, he / she can deploy money in liquid funds and transfer a fixed amount via STP to the ELSS scheme at regular intervals.
Integrate with financial planning
While most investors look at tax planning independently, it would be good if this tax planning can also be integrated with holistic financial planning for the individual. For instance, investments made through tax planning can help achieve some financial goals.
Thus by doing so, you are able to meet the dual goals of tax saving as well as wealth generation while not putting higher pressure on the overall resources available with you. By investing year round, an individual can avoid haphazard investments at the end of the year, and rather look at integrating it with his / her overall financial planning.
Since there is no escape from taxes in today’s world, it is important to adopt the best practices to reduce the tax outflow while generating the best returns from tax-saving instruments. Invest as per your risk-return profile and make tax saving a year-long process. Also look at inflows/outflows holistically to generate the optimum balance and meet your long-term financial objectives.
(The writer is director, Funds Research, CRISIL)