Investment (and Tax Planning)

First things first (read as disclaimer). Whatever written below is based on my personal experience, advices by my well-wishers and some tit-bits from various media. The contents of the blog are applicable only in India. Since the given information is not by a financial expert, the author is not liable for incurred loses if people feel complied to use the information. However, the author will gladly accept to share the profits (if any) from people who use the information to enhance their wealth. ;)

We as Indians generally "link" our investments to tax planning. This is not a healthy exercise. People should plan their investment to save tax but should never limit their investments around income tax exemptions. There is a thumb-rule for investing money based on your earnings (which I cannot recollect now, use Google for information). Plan your investments for the future. Your money (investment) should earn money.

The section 80C considers investment under the following options for income tax exemption. I have included a brief (pros and cons) based on my experience along with each option.

PF (Deduction from Salary): The reigning king of all safe investments at present. The Govt. of India has declared a compound interest of 9.5% for 2010 – 2011 and this interest will continue till a new interest rate is declared for 2011 – 2012. If there is an option of increasing your EPF contribution at your company then please do so. The advantage of EPF is that the returns are guaranteed and the investment is safe. Flip side is that this money is “linked” to your company. Without the company’s approval this amount cannot be used. The return on this investment is not taxable. Loan facility is available. My rating: 4/5.

Public Provident Fund: My personal favorite. At this point of time the returns on this investment is 8% compound interest. This is very similar to EPF except for the fact that it will be in the investor’s control. The account can be opened in some branches of nationalized banks or in post offices. The added advantage of opening this account in bank is that there is an option to do fund transfer using online banking. A very flexible option of investing, in the range of INR 500 to INR 70000 annually, is available for this scheme. The investor can deposit money up to 12 times in a financial year. One deposit for the minimum amount is a must during the financial year. The only catch in this investment is that the fund is “locked-in” for 15 years. Partial withdrawal is allowed after a certain number of years. This is the best plan for long term investments. The return on this investment is not taxable. Loan facility is available. My rating: 4.5/5.

Mutual Fund: This is a semi-safe investment and is prone to risk. There are various mutual funds available in the market with various options (growth and dividend). You also have the option of “dictating” where your funds should be invested (in terms of risk and returns) with some financial institutions. The risk and returns of your fund are directly dependent on this option. The mutual funds are mainly invested in share market and/or government institutions. Advantage/disadvantage is that as there is a certain amount of calculated risk the invested money can either grow or decline. The return on this investment is taxable. My rating: 3.5/5.

National Savings Certificate: Very moderate investment with not so encouraging returns of 8.12% compound interest. The returns are taxable, so the actual returns on investment will be less. The maturity period is 6 years. There is an option of premature encashment after 3 years. There is no risk involved. It is similar to fixed deposits. The certificate in various denominations can be “purchased” in post offices. My rating: 3/5

Unit Linked Insurance Plan: The worst form of investment, it is usually referred to as ULIP. All my investments in such plans are yet to reach the breakeven point. The only “person” seeing money in this scheme is the financial institution. They charge exorbitant fees; lump sum during the investment and substantial amount during every month. They take your units rather than the money. Never ever fall for such shams. My rating 0/5

Life Insurance Policy: Try not to link your life insurance with investments. The better option is to take term insurance wherein your life cover would be more for a nominal premium. The flip side of term insurance is that you will not get your premium back. The basic idea of life insurance according to me is to ensure that your dependants’ financial security is not compromised even if you are not around. Term insurance will very well take care of this condition. My rating: 3/5

Scheduled Bank FDS (5 yr lock): This is a safe investment. To get income tax benefit you need to get an FD with minimum lock-in period of 5 years. If it is within 5 years then you do not get a tax rebate. The disadvantage of an FD is that the returns are taxed. The effective return on a FD is seldom less compared to other investments like PPF, EPF, etc. There are options to withdraw FDs before their maturity date. The bank recalculates the interest and will impose a fine for premature withdrawals. My rating 2.5/5

Infrastructure Bond: This scheme can only be utilized after the investment of 1 lakh under section 80C. You get an additional exemption of INR 20,000 on your taxable income. This is good scheme to save further on your income tax. There are growth and dividend options for the returns. The rate of interest varies according to the institutions which come out with the bonds. The bonds are available only for a fixed duration of time or for fixed amount of investment. The return on this investment is taxable. These are long term bonds. The lock-in period varies from 5 to 7 years. My rating: 3/5

Equity Linked Savings Scheme: No comments. If anyone knows something about this then feel free to write your inputs.

Mutual Fund Pension: No comments. If anyone knows something about this then feel free to write your inputs.

Education Tuition Fees: No comments. If anyone knows something about this then feel free to write your inputs.

Housing Loan (Principal): No comments. If anyone knows something about this then feel free to write your inputs.

Senior Citizens Savings Scheme: No comments. If anyone knows something about this then feel free to write your inputs.

Post Office Time Deposit: No comments. If anyone knows something about this then feel free to write your inputs.

Definitions
Lock-in period: The duration (for an investment) during which the money cannot be withdrawn.
EPF: Employee provident fund.
PPF: Public provident fund.
Breakeven point: The investments made are not in loss or profit.
Taxable income: The income on which the government imposes tax. This is calculated based on the investments made under section 80C, the HRA, conveyance, etc.

PS: Please use the comments section to criticize, correct and/or add information.