Plan for subsequent articles

I am planning to write articles covering the following over next few weeks:

1. Basic concepts: inflation, compounding, savings and financial planning, various investment avenues etc
2. Trading v/s Mutual funds and mutual funds in depth
3. Investing in mutual funds
4. Insurance v/s investments and insurance in depth
5. Various aspects of financial planning
6. Tax planning revisited and filing return

Please let me know if there is any particular topics that you want me to cover here.

Old articles:

       1. Financial literacy series

       2. Tax proof submission time is closing in: have I missed the bus for this year?

Tax proof submission time is closing in: have I missed the bus for this year?

Short answers is "NO". Please read on.

Since most companies would soon ask employees to submit their tax receipts, I thought it would be a good idea to start with an article on the same. I have touched upon various tax saving options and their pros & cons and also there is some advice for quick action.

Salary, taxes and deduction

I don't think salary requires any explanation. All of us know how hard is it to earn.

Government imposes taxes on people  earning income and employers are liable to deduct taxes and submit it to IT department before giving salary every month (it's called TDS or tax deducted at source). However at the same time government encourages people to invest some of the income in certain avenues to get tax breaks. Currently there are deductions permissible for rent paid, medical expenditure upto Rs 15000/-, LTA, interest paid on home loan, educational loan, health insurance and various options under 80C for upto Rs 1 lakh.

Every year, in the beginning of the financial year, i.e. April, companies ask employees to declare what investments people are going to make and based on that they determine the monthly TDS. Then in January or February they will ask employees to submit the proof that they actually made those investments.  Throughout the year, company deduct less TDS based on the declaration and if you fail to submit the proof by due date than they need to deduct the balance tax in just last month resulting very little salary for that month. 

When I filled the declaration in the beginning, I wasn't very careful. What's the way out?

It doesn't matter what you declared as long as you make up for the same amount while doing the actual investment. For example say you declared that you would buy an ULIP or LIC for Rs 80000/-. Now you figured that better thing is to invest that money in PPF or Tax saving mutual funds (ELSS). You can still invest Rs 80000/- in PPF or ELSS and submit the proofs. It will be gladly accepted by your company and the IT department.

I haven't made any investment so far. What do I do now?

For HRA (house rent), medical allowance and LTA, we don't have much leeway. Submit whatever actual receipts you have  got. For rest of the avenues under section 80C:

1. PF: This is the best form of debt investment available in my opinion. It gets deducted automatically. You get about 8.5% percent interest guaranteed by Govt and all of that is tax free. In case you change employer, you can withdraw this amount or get it transferred. By default it's about 12% of your basic salary and there is an option to get it increased.  
   Some people opt out of PF which is a very bad thing in my opinion. Please  don’t do that.
2. PPF: Similar to PF, return on PPF is also tax free. It's offered by SBI and ICICI. This is also quite good option in my opinion and it can be done online. This is also for long term and you are not allowed to withdraw for 15 years.
3. Insurance (LIC or ULIP or term insurance): most people end up buying LIC or ULIP when the deadline is near. This is NOT the best thing to do as returns on LIC are hardly about 5-6% and ULIPs have very high charges (10-14% or higher) compared to mutual funds (about 2-3%) with very little insurance cover. Also information available about fund management of ULIP is much limited compared to mutual funds. In short ULIP is design to be very expensive and confusing with very little benefits and tradition insurance offers way too insurance coverage as well as very low return on investments.
   Term insurance make sense. In case you don't have any insurance, you can go for an online term plan which costs really less (as low as 7000-8000/- for insurance of Rs 1 crore). The only disadvantage is that in case you survive the tenure, you don't get anything. That's why other insurance plans are much popular in India as people fail to notice the very high cost associated with them.More on insurance v/s investment later. For now please take my word that term insurance is the best insurance.
4. Deposits: I don't like these avenues at all because complete interest is taxable. So people who are in highest tax bracket, will end up paying 30% tax on interest that they receive. This includes 5 years bank FD & post office deposits etc. Please ignore them and go for PPF or ELSS.
5. Tax saving mutual funds (ELSS): This is my favorite avenue. As in the example I described in my previous article, long term returns in equity are quite substantial compared to other avenues (average considered to be about 12-15% over 10 years in general, however it's not guaranteed and actual returns could be lower or higher. See disclaimer for more info on this). Also returns for over one year are tax free which makes equity extremely attractive. 
   Since the best way to invest in equity is through SIP over the whole year, this is not advisable now as you hardly have only 2-3 months. However you could still invest some small amount in multiple chunks like say Rs 10000/- in December, January and February. You will get statement within 3-4 days after making the investment so you can still submit that as a proof. Also if you could go for longer tenure, i.e. you need not withdraw this money say for next 10-15 years, you can still invest larger amount. 
   How to select which tax saving mutual fund? Check out value research online and invest in 1 or 2, 5-star funds: http://tinyurl.com/o7k2bqq . More on understanding and selecting mutual funds later. 
   How to invest in equity mutual funds? You could visit any banks which would charge about 3-5% fee. However I would recommend that the best way is through fundsindia. I am using it for last 5 years and I found it safe and extremely convenient. They can help you open your account for free and let you invest online for free in a matter of few days. Alternatively you can directly go to fund house office or their registrar CAMS or Karvy (address available in value research online page of mutual fund under investment details tab) and avail direct option which has 0.25% lesser charges which otherwise would have gone to fundsindia. However it could be a big hassle if you are not KYC complaint.  

Apart from 80C, you can claim deduction on health insurance premium payment for upto Rs 35000/- for your family and parents. Taking additional health insurance is a good thing. More on why health insurance required and choosing a good one later. Also you can claim deduction on interest paid on educational loan, if any.

Another good avenue is buying a house but it's not advisable  to buy one now for this financial year due to lack of enough time. However this is something that can be planned for next financial year. You would get tax benefit upto Rs 150000/- on interest paid and principal can be claimed for the limit of Rs 1 Lakh under 80C.

Bottom line, for section 80C that has Rs 1 Lakh limit, please opt for PF, take term insurance and invest balance amount in PPF or ELSS. 

In case I fail to submit the receipts by the deadlines, is there anything I can do about it?

If you fail to submit receipts by the deadline set by your company, you can still make the investment before March 31st. However your company would have deducted the TDS and submitted it to IT department. Hence while filing for tax return during next July, you can ask for tax refund.

Also be aware that tax refunds could be delayed substantially. I know friends who didn't get refund even in 3 years. Hence resort to this option only if absolutely necessary.

I hope this is useful information and you would be able to make an informed decision about investments for tax planning. I would like to add here is financial plan for tax saving investments must be inline with overall financial plan and most probably it would if you follow the above advice. More on financial planning in subsequent articles. Please do share if you have any questions, comments or feedback. Also needless to say please share this article with as many people as possible.   

Disclaimers and disclosures:

The views shared here are based on my own knowledge and research. Whatever advice I am offering here is best based on my own knowledge & abilities. I would like to reiterate that equity investments are risky and there are no guarantees. However avoiding equity completely is riskier. The risk associated with them can be managed and that's what I am trying to put it across in simplest possible terms. More on this here.

In case you act on my advice, I am not going to get any commissions from any mutual fund etc.  Also I don't take any legal responsibility for any losses that you might incur (at the same time not asking you to share your gains with me :P). 

I am recommending fundsindia because I am using it for last 5 years and I found it really good and convenient. I am just another user for them and I would NOT be getting any commissions on any investments that you are going to make. If you use the link above to register, I might be getting a Rs 200/- coupon one time in case join them. However that is not my primary motivation and I have made my family & close friends join fundsindia even before they started any such campaign. 

Financial literacy series

Why?

I would like to start with a story that motivated me to write this blog post. I have a colleague who trades stocks and we had conversations about a share where he was making substantial losses. Based on that I presumed that he would be a financially literate person and at least he would know the basics of investing. Fair assumption, isn't it? However I was astonished when one day he mentioned that he doesn't know things as basic as SIPs into MFs. And guess what? He is not alone. I come across questions like following all the time:

• "I don't understand how should I fill up my tax declaration"
• "Should I opt for EPF, PPF or 5 years FD for tax saving?"
• "What is tax return? Why should I fill it up every year when my company already deduct taxes?"
• "Oh...I can file my tax returns in 10 minutes for free!!! Then why was I running around those help-desks and CA's all these years?"
• "This is tax proof submission time and I need to find some agent who can help me buy some LICs or ULIPs"
• "I don't have time to understand financial matters. The information available about this is too much (or too complex) and I have no time to get into any of it"
• "Finance is too complex for me to understand and I do whatever my father or a relatives or a friend or some adviser tells me to do" 

Do they sound familiar? Does it worth it to be financially literate  given that so much help is readily available from relative/friends/advisers? 

It does. Please read on to understand why.

Why does it matter?

Again let me take a very simple example. Two friends started their careers in 1998 and today they compared their tax saving portfolios. My friend A didn't know much about investing and his LIC agent uncle convinced him to buy a policy worth 15 lakh for 15 years with yearly premium of about Rs 25000/quarter for tax saving purpose. At the end of 15 years he got the sum assured 15 lakh along with a handsome bonus of worth about Rs 11 lakh. In addition, every year he saved tax of worth Rs 30000/-. Hence overall he received or saved Rs 31 lakh at the end of 15 years and he is very happy. That's why his father was trusting that LIC agent uncle for all these years and everybody is quite happy with this decision.

Now being financially literate B was far more careful, he chose to invest in tax saving equity mutual funds or ELSS through SIP (systematic investment plan, i.e. money is invested every month automatically). He chose a popular fund called "HDFC tax saver" and he started investing Rs 8300/- every month for all those same 15 years. Guess how much he had at the end of 15 years? A whopping sum of  about Rs 1.1 crore excluding Rs 30000/- that he saved on taxes every year. Do I have any proof about example of B? Yes, here you go: http://tinyurl.com/q748qqj

But wait a minute, isn't equity risky?

We hear all the time that "Mutual fund investments are subject to market risk. Read all scheme related documents carefully before investing". If things are that hunky-dory, why do they say that?

Yes, I admit equity investments are quite risky. In fact even in the same fund, if B had invested Rs 1 lakh when market was about to collapse in 2008-09 recession on January 1st 2008, he would had ended up with only Rs 40000 in March 2009 when market was at rock bottom!!

"What? Man, you give dangerous advice. Good that I read on so far. Now I understand what they mean when they say equity is risky".

But wait. Is the story really over? Or is there more? Please read on.

Being a sophisticated investor, why would B invest all that sum in one shot at the peak of market? Also why would he pull out all that sum within little more than a year when the market is at rock bottom?

If he decides to wait only for one more year and a half, he would have had about Rs 1.25 Lakh. By the way, tax saving mutual funds have lockin period of 3 years so he wouldn't be allowed to pull money out that early.

But B, being a financially literate, would choose the same strategy of doing SIP of 8300/- per month starting from same January 2008 when worst time started. He would not be deterred by ups and downs of the market and would continue investing no matter what. Let's see where would he be today. Keep in mind that when he started the market was collapsing and so far these have been one of the worst 5 years of Indian stock markets in terms of returns. Still my friend B would end up with Rs 8 lakh for the investment of about Rs 6 lakh in November 2013. Still impressive , isn't it? Adding Rs 1.5 lakh as saved tax over the same period makes it even better at about Rs 9.5 lakhs. 

The name of the game is long term and Rupee cost averaging my friend.   

Again, why this blog?

Though already there is a lot of information available and more & more is being generated every day, why am I still doing it?

Yes, true. There is indeed a lot of information available. Much of it is quite precise and helpful. But still, why do I encounter those above mentioned questions all the time?

In my opinion, like in case of A, every ULIP or LIC bought just for tax saving  is probably a big opportunity lost. May be my dear LIC agent uncle doesn't have any bad intentions but it's just that he is too old fashioned. Also our parents didn't have all these resources and internet at disposal hence they can't be blamed too. However school/college education is to be blamed as it fails to teach financial literacy to everybody. 

All of us work very hard to make money. But after working for those many years, how much wealth could you preserve? Are you satisfied with that amount? If no, then why not let's all become financially literate so that we are not at the mercy of others to preserve and grow that hard earned money.

I want everybody around me, even those who are far away but connected through my social network, to be financially literate. That's why I am writing it. Any takers?

Please stay tuned for more articles on tax planning, return filing, insurance , investment, financial planning & financial literacy in the weeks and months to come.  Needless to say, I would try to keep them short, sweet and simple to follow.