Wondering how to optimize your taxes???

The key lies in prudent and effective tax planning

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What is tax planning? Judicious use of provisions of the Income Tax Act to optimize your tax liability

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Tools of tax planning

Tax Planning

Exemptions

Deductions

Rebate

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Let us know more

Exemptions refer to those income which are earned but not taxable. e.g. Dividend income, proceeds from an Insurance company, LTA rules etc.

Exemptions

Deductions

Deductions refer to those investments or payments which will be deducted from total income. e.g. Contribution to ELSS, ULIPs, childrens tuition fees paid, interest on home loan etc.

Rebate

Rebate is a reduction from tax payable. Currently there is only one rebate available i.e. Rebate for STT applicable only to an individual who is involved in the business of dealing in shares

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Since exemptions are understood widely and no other rebate is available (apart from STT rebate for businessmen), lets us focus more on deductions

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Beware. Tax planning is not a generalised process! It will depend on ones profile . . . . . to illustrate, lets look at three varied profiles

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Case A Mr.Shekhar
I Personal Profile Age Marital Status No. of children Type of employment Type of accommodation Home loan II Salary Details Annual salary Tax rate applicable Tax payable (before considering impact of housing loan and EPF) 4,00,000 30% 71,400 40 Married 2 (aged 8 yrs and 3 yrs) Government employee Own Annual principal repaid Rs.18,000 Annual interest payment Rs. 1,00,000 (For a loan of Rs.10 lacs)

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Case A Suggested tax planning

Details Salary before tax planning Less: Deductions u/s 80C 1. Annual EPF contribution 15,000 Employee's contribution to PF can be claimed as a deduction u/s80C Earlier there was a limit of Rs.12,000 per child for claiming a deduction, however from assessment year 2006-07, the limit is withdrawn. This is currently available only for the tuition fees paid for upto 2 children Principal portion of home loan EMIs are eligible for deduction Life insurance premiums are eligible for deduction. 1,00,000 This policy will meet the dual purpose of risk cover along 25,000 with ensuring a specific amount at the expiry of the term or during the term. 10,000 2,000 17,000 A child plan where life assured is the parent would provide for the future expenses of the children. This plan will insure repayment of outstanding EMIs on home loan in the event of his death It is important for Shekhar to have some exposure to equity markets so that his savings multiply at a higher rate. Amt. (Rs.) Amt. (Rs.) Explanation

4,00,000 Salary after considering taxable HRA

2. Children's tuition fees

13,000

3. Home loan principal amount 4. Insurance premiums a. Traditional endowment plan/ money back plan b. Child plan c. Mortgage redemption plan 5. ELSS

18,000

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Case A Suggested tax planning

Less: Deductions u/s 80D

(Contd.)

1. Critical illness plan

10,000

10,000

Medical insurance premiums (towards critical illness and mediclaim) are eligible for deduction u/s 80D. As Shekhars employer has already given him health insurance cover, he need not opt for mediclaim. As he is aged 40, it is important for him to have critical illness cover. Not available as he is not paying any rent for his home This deduction is available for interest on housing loan Tax slab rate applicable 10%

Less: Deduction u/s 80GG Less: Deduction u/s 24 Taxable salary after tax planning Tax payable after tax planning Savings in tax 1,00,000

NA 1,00,000 1,90,000 13,260 58,140

Resulting in tax savings of 82%

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Case B Ms. Girija

I Personal Profile Age Marital Status No. of children Type of employment Type of accommodation Home loan II Salary Details Annual salary Tax rate applicable Tax payable (before considering impact of housing loan and EPF) 2,40,000 20% 19,890 25 Single Private employee Rented (receiving HRA) Rent paid p.m. Rs.5,000 N.A.

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Case B Suggested tax planning

Details Salary before tax planning Less: Deductions u/s 80C 1. Annual EPF contribution 2. Life insurance premiums a. Term plan 8,000 62,000 b. ULIPs 25,000 9,000 Employee's contribution to PF can be claimed as a deduction u/s80C Life insurance premiums are eligible for deduction. By opting for term plan, she can cover her parents future expenses at a very low cost. ULIPs will give her the dual advantage of risk cover along with wealth creation. She should opt for equity option under the ULIP. Girija having more earning life has the ability to absorb more risk. Therefore, she should allocate higher portion of savings towards wealth creation (ELSS and ULIP). Amt. (Rs.) Amt. (Rs.) 2,40,000 Explanation Salary after considering taxable HRA

3. ELSS

20,000

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Case B Suggested tax planning

Less: Deductions u/s 80D

(Contd.)

1. Mediclaim

3,000

3,000

Though Girija can save higher amount of tax by paying premium upto Rs.10,000 (giving medical insurance cover of app. Rs.10 lakhs), she does not need mediclaim policy of higher cover. If she opts to pay Rs.7,000 more towards mediclaim she may save taxes of Rs. 1400 only, while the coverage of Rs. 10 lakh may not prove to be utility for her. Not available as she is not paying any rent for her home Tax slab rate applicable 10%

Less: Deduction u/s 80GG Taxable salary after tax planning Tax payable after tax planning Savings in tax

NA 1,75,000 6,630 13,260

Resulting in tax saving of 67%

It should be noted that we have not recommended Girija to utilize section 80C and 80D completely. Tax planning does not mean the reducing the tax liability to zero, sometimes it makes sense to make some tax payment instead of buying into tax saving products (which may not have utility for the investor).

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Case C Mr. Roopesh

I Personal Profile Age Marital Status No. of children Type of employment Type of accommodation Home loan II Salary Details Annual salary Tax rate applicable Tax payable (before considering impact of housing loan and EPF) 5,00,000 30% 1,02,000 30 Married Self employed Rented Rent paid p.m. Rs.8,000 N.A.

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Case C Suggested tax planning

Details Salary before tax planning Less: Deductions u/s 80C 1. Annual PPF contribution 4. Life insurance a. Term plan 20000 20000 As he is self employed, he can invest sums in PPF which will form a decent corpus for his retirement. This contribution can be claimed as a deduction u/s 80C Life insurance premiums are eligible for deduction. A term plan offers the advantage of a risk cover at a reasonably low cost. As Roopesh is in a position to take a reasonable amount of risk, it makes a lot of financial sense to opt for a ULIP, which will give him a risk cover along with market linked returns. Roopesh can also claim a deduction on premium paid on a policy covering his wifes life. ELSS serves an investment option with perfect balance between equity market returns and tax benefits. Amt. (Rs.) Amt. (Rs.) 500000 Explanation

b.

ULIPs

20000

100000

c.

Whole life plan (for his wife)

10000 30000

5. ELSS

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Case C Suggested tax planning

Less: Deductions u/s 80D

(Contd.)

1. Mediclaim policy

5000

5000

Roopesh can take a mediclaim policy for himself and his spouse. A mediclaim policy is a good option for Roopesh for tax planning beyond Sec.80C, along with providing him with a health cover. Can be availed only if paying rent for home and are not in receipt of HRA Tax slab rate applicable 30%

Less: Deduction u/s 80GG (Note) Taxable salary after tax planning Tax payable after tax planning Savings in tax

24000 366000 60996 41004

Resulting in tax savings of 40%

Note: Computation of deduction u/s 80GG for Roopesh: In his case deduction for rent paid can be availed to the extent of least of the following: Rs.2,000 p.m. = Rs.24,000 25% of his taxable income i.e. 25% of 3,90,000 = Rs.97,500 Rent paid in excess of 10% of taxable income i.e. [Rs.96,000 (10% of 3,90,000)] = Rs.57,000. Thus he can claim a deduction of Rs.24,000 u/s 80GG

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For more details refer

Advisors Guide Tax Planning (Jan-March 2007)

or (financialplanner@karvy.com)

Contact PFP Team

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