Logical analysis of a financial situation or plan from a tax perspective, to align financial goals with tax efficiency planning. The purpose of tax planning is to discover how to accomplish all of the other elements of a financial plan in the most tax-efficient manner possible. Tax planning thus allows the other elements of a financial plan to interact more effectively by minimizing tax liability.
Tax planning encompasses many different aspects, including the timing of both income and purchases and other expenditures, selection of investments and types of retirement plans, as well as filing status and common deductions. However, while tax planning is an important element in any financial plan, it is important to not let the "tax" tail wag the financial "dog." This can ultimately be counterproductive, as virtually all courses of financial action will have some tax consequences, and they should not be avoided solely on this basis.
1. Utilise the entire Section 80C deduction
Under Section 80C, the maximum deduction available is Rs 100,000 pa. Ideally, salaried individuals whose gross total income is equal to or more than Rs 250,000 should utilise the entire Rs 100,000 limit. Consider the case of an individual whose taxable income is Rs 600,000 and who only utilises half of the available Rs 100,000 limit. He would end up paying an additional tax of Rs 15,450 as opposed to an individual with the same taxable income, but has utilised the entire limit.Also, at times, individuals make investments of over Rs 100,000 in Section 80C designated avenues, since they fail to understand that the benefits are capped. For example, despite making investments of Rs 70,000 in Public Provident Fund and Rs 40,000 in ELSS, the amount eligible is only Rs 100,000.
Following investments/contributions qualify for Section 80C deductions:
(The above list of investment/contributions is not exhaustive. For a complete list, please consult a tax- advisor)
2. Think beyond Section 80C
For salaried individuals whose gross total income exceeds Rs 250,000 pa, deductions under Section 80C may not be sufficient to reduce the overall tax liability. In such cases they can consider the following:
Home loan: Individuals intending to buy a house should consider opting for a home loan. Interest payments of upto Rs 150,000 pa are eligible for deduction under Section 24.
Medical insurance: An individual who pays medical insurance premium for self or spouse/dependent children is allowed a deduction of upto Rs 15,000 pa under section 80D.
An additional deduction of up to Rs 15,000 pa is allowed for premium payment made for parents. In case the parents are senior citizens, then the maximum deduction allowed is Rs 20,000 per year.
Donations: Subject to the stated limits, donations to specified funds/institutions are eligible for tax benefits under Section 80G.
Salaried individuals who plan to pursue higher education should avail of an education loan as the entire interest is eligible for deduction under Section 80E. The loan can be for self, spouse or child from an approved charitable institution or a notified financial institution.
3. Restructure the salary
Restructuring the salary and including certain components can go a long way in reducing the tax liability. Unlike eligible investments which lead to an additional cash outflow, restructuring the salary is a more 'efficient' means of claiming tax benefits. The following can form a part of one's salary structure:
4. Claim tax benefits on house rent paid
Salaried individuals can claim rent paid by them for residential accommodation, if HRA doesn't form part of their salary. This deduction is available under Section 80GG and is least of the following:
Please note that the above deduction will be denied if the taxpayer or his spouse or minor child owns a residential accommodation in the location where the taxpayer resides or performs his office duties.
5. Opt for a joint home loan
As discussed earlier, the principal repayment on a home loan is eligible for a deduction of up to Rs 100,000 pa and the interest paid is eligible for a deduction of up to Rs 150,000 per year.
In cases where the home loan is for a substantial sum, it is not uncommon for the interest and principal repayment to exceed the stated limit. To ensure that the tax benefit is optimally utilised, an individual can consider opting for a joint loan with his spouse or parent or sibling.
This will ensure that both the co-owners can claim tax deductions in the proportion of their holding in the loan. The co-owner falling in the higher tax bracket should hold a higher proportion of home loan to ensure that the tax benefits are maximised.
Income (Rs) Tax Rate (%) Maximum tax savings
after 80C deductions
(Rs) Savings investedÂ
@ 8% pa for 20 years
(Rs) Savings invested
@ 15% pa for 20 years
Upto 150,000 Nil - - -
150,001-300,000 10 10,300 48,008 168,575
300,001-500,000 20 20,600 96,016 337,151
500,001 and above 30 30,900 144,024 505,726
As can be seen in the table above, making use of the available tax deductions can go a long way in helping individuals accumulate wealth. Consider the case of an individual in the highest tax bracket with a gross total income of Rs 600,000. If he chooses to ignore the tax sops available under Section 80C, his tax liability will amount to Rs 87,550. Conversely, if he chooses to makes eligible investments/contributions of Rs 100,000 under Section 80C, his tax liability will be Rs 56,650 i.e. a saving of Rs 30,900. The amount saved in turn can be invested in various avenues like fixed deposits, mutual funds and equities, depending on his risk appetite.
Given that the tax-planning exercise can aid salaried individuals to both save on tax and accumulate wealth, they would do well to offer the exercise the importance that it deserves.