Many young Indians, while pushing the ‘save tax’ action item further down their to-do list and leaving it for the last-minute, make investment errors that are quite avoidable and can be otherwise harmful to their financial health. Considering that the priority is to get ‘done’ with taxes rather than making a sound judgement while choosing the right instrument to save tax, these errors are pretty common. All of us have made them at some point or the other.
Some of us are not even sure if we actually need to make an investment in order to save taxes! Yes, for many with a salary package of less than about Rs 6.5 Lakhs, actually making a tax saving investment might be totally unnecessary.
Here are the top 4 such mistakes and how you as a taxpayer can avoid making them this tax season and hopefully, plan better next year;
1. Buying an unnecessary insurance policy/product
Saving tax is the excuse many give when they are asked by their financial advisors as to why they have a completely irrelevant insurance policy or financial product as part of their portfolio, largely coaxed into buying by family members, relatives or friends. Don’t just buy to save tax. Pause and understand if the investment is actually of use to you in the long run. Otherwise, you are spending money, not investing or purchasing something useful.
With tax-saving instruments such as ELSS mutual funds, you don’t really need to wait till the last moment. You can make the investment as soon as the financial year starts and better yet do it the SIP way so you won’t face a big payment towards end.
2. Waiting till the end – you can do a tax-saving MF SIP
With tax-saving instruments such as ELSS mutual funds, you don’t really need to wait till the last moment. You can make the investment as soon as the financial year starts and better yet do it the SIP way so you won’t face a big payment towards end. Even for FDs and PPF, it’s better to set up your recurring debits in the beginning of the financial year.
This will save you a lot of needless running around come January when you have to submit your tax proof to the HR.
3. Not understanding lock in periods and their relationship with Inflation
Many new tax-saving investors often fixate on “stability” and “safety”, after convenience and what they know, of course. The lock-in period is justified away. But with most options having a lock-in period of at least 5 years and 15 years in case of PPF, you are at risk of underestimating the impact of inflation and what your money will amount to at the end of the tenure. You need to ask yourself - are you making the most of your hard-earned money?
With tax saving mutual funds, your money is most likely to stay well ahead of inflation, even if inflation goes up. At a historical rate of 7%, inflation is likely to make things cost double what they do now, in a decade. This means that a lock-in of 15 years will also have significant consequences inflation wise. Many investors forget this fact.
Your tax saving money can be a significant part of your long term wealth corpus if you invest right. A lakh a year invested is no laughing matter when you are looking at the growth rates the equity market is capable of generating (about 12% going forward is the expectation). ELSS tax saving funds are the primary tax-saving tool that can exploit this fact. You are potentially looking at a Rs 24 Lakh corpus in 10 years by just investing Rs 8000 a month in tax saving funds.
4. Not checking which of your compulsory investments are already being considered under Sec. 80 C
Those in a higher salary bracket often don’t realise that they are already fulfilling their 80C investment commitments via their EPF contribution. If your EPF component is on the higher side, do a double check before investing. You might not either need to make the investment or if so, then you might need to invest less than you might think.
So this tax season, think first about wealth creation and then make a wiser choice that will not just help you save tax but contribute to your overall corpus allowing for both financial security and freedom.
This article was first published on 21 January 2020, in the Financial Express.