This article shows what steps investors should take in April at the beginning of the financial year.
How should you plan your investments and taxes in April?
01 Apr 2022 - Contact Sayan Sircar
13 mins read
This article shows what steps investors should take in April at the beginning of the financial year.
April marks the beginning of the financial year. We need to perform some tasks to ensure both investments and taxes are appropriately planned for the entire year. This article will focus on some of the most common items.
Disclaimer: Taxation is a dynamic concept and the content of this article is valid on the date of publication and any subsequent updates. Always consult a professional tax advisor before doing anything that leads to taxes being due.
Table of Contents
- Financial planning vs tax planning
- Tax savings investments
- Debt investments for tax planning
- Investment declarations
- Benefit of the debt-type asset indexation rule in rebalancing
Financial planning vs tax planning
Don’t spend 100 rupees to save 30 rupees tax - Author
A lot of investors focus on taxes first while planning their investments. While saving taxes is essential, an investment plan that focuses on saving tax and not investing as per goals is a recipe for future disaster. Capital is scarce for most investors which means you need to be able to formulate your goals with a proper investment plan to know if your investments are happening correctly. Based on your age, you may not have a lot of time to course correct.
For example, if you are 35 and do not have a corpus of 13x your current annual expenses saved for retirement, you are already behind. You can check this concept here: Goal-based investing will show you how much you should have saved at 30,40,50 and retirement.
Before focusing on tax deductions, ensure that:
- your goals are set: How to set SMART goals for investing?
- your pre-investing basics are in place: I have heard of goal-based investing. What now?
- you are not unnecessarily delaying investing: What is the danger of starting investments late?
- you understand the basics of tax planning: How to plan tax deductions for salaried income?
A few common mistakes that investors make:
- taking a home loan only to save tax. You should buy a home to live in it. Tax savings is there just to reduce your cost of a home loan and not make you spend extra money for a home that you do not need yet
- maximising deductions like PPF or SSY without considering if they have enough amount invested in equity for long-term goals
- Investing in NPS just to save tax. NPS is not recommended for people due to the forced annuitization in a falling interest rate regime and the fact that your money is locked up until 60
Tax savings investments
The 80C waterfall
Under 80C, you can claim a deduction of ₹1.5 lakhs/year. At the 30% tax bracket, you can save ₹45,000 (plus cess) as taxes.
We will use a waterfall approach to fill the 80C limit by moving to the next step only if anything is left within the 150,000 limits:
- Step 1: Mandatory EPF contribution if you are salaried
- Step 2: Life Insurance premium - Why you should have term insurance?
- Step 3: Housing loan principal
- Step 4: Children’s school tuition fees
- Step 5: Long-term investments as per goals - NSC, PPF, ELSS, NPS, five-year tax saving FD etc. All of these should be completed or at least started in April.
Read more about 80C deductions here: How to best use 80C deductions to plan your taxes?
Apart from term insurance, do not buy other life insurance like whole life, endowment and ULIP. These products are just a term plan with an investment component. They are traps for insurance agents and banks to make money off unsuspecting investors.
Use this guide to purchase term insurance: Term life insurance: what, why, how much to get and from where?
New Pension Scheme (NPS)
NPS offers ₹50,000 deduction under Section 80CCD and is therefore a hot favourite amongst those who wish to save ₹15,000 in tax every year. Two major problems with NPS are:
- lock in up to age 60 which locks you out of your own money in case life situations change
- at 60 they force you to buy an annuity out of 40% of the NPS corpus which gives a taxable pension at rates that will fall over time as the Indian economy matures
Our position on NPS investment is:
- if NPS contribution is a part of CTC, then contribute only enough from your side to get the full match
- if ₹15000 tax saving is the target, invest no more than ₹50,000/year by creating a SIP of ₹4200/month. If you can spare the cash, dump ₹50,000 in April and forget about it for the rest of the year. You can repeat this activity again next year
- Invest 100% in the G-option which invests in Government security schemes
- keep the account active with minimal contribution (₹1000/year as per current rules) up to age 75. Do not withdraw at 60 since the annuity return is poor
Equity Linked Savings Scheme (ELSS)
ELSS funds are mutual funds with a mandatory 3-year lock-in for every purchase and offer a tax deduction under section 80C. If you are investing in the SIP form, then keep in mind that every instalment is locked for three years from purchase.
All ELSS funds are currently available only as active funds. Only having active funds leads to a “which is the best ELSS fund” confusion amongst investors. The thumb rule to choose active funds is
- keep the expense ratio as low as possible
- past returns are good to know (to avoid the consistently worst funds) but unimportant as a predictor of future returns
- stick to 1-2 ELSS funds in the whole portfolio
- you should ignore star ratings shown in rating portals
Many investors use the 1-lakh equity LTCG tax exemption to roll their ELSS funds every year. This form of tax harvesting involves selling the oldest (>3y) ELSS units and reinvesting them immediately in the same or another fund.
If you plan to invest in ELSS, start a SIP in April instead of waiting until December or later when your company asks for investment proofs. Investments in ELSS funds should be only to fill any remaining 80C limit and should be as per the equity allocation of your goals. This post shows you how to select an ELSS fund: What are the best tax-saving ELSS Mutual Funds?.
Debt investments for tax planning
Debt allocation for any portfolio has three parts:
- short term debt allocation for goals up to five years that has to be kept liquid in a bank account or suitable mutual funds
- liquid debt allocation for rebalancing purposes
- long term debt that is illiquid like provident funds and SSY
Public provident fund (PPF)
PPF allows you to invest ₹1.5 lakhs/year in every family member’s PPF account (grandparents, parents, children) and allows ₹1.5 lakhs exemption/year under 80C per investor who is investing. So a family with goals that are far away can invest 1.5 lakhs/year for multiple family members as long as their asset allocation allows it. The interest rate for PPF is 7.1% today and is expected to fall with time. The money is locked until maturity for 15 years.
If you are wondering when to invest in PPF keep this in mind: since the balance of the PPF account does not reduce, you need to invest as much as you can or need to as early as possible. The interest for PPF is calculated based on the balance on 5th April, then on 5th May and so on and then credited on 31st March next year.
Employee provident fund (EPF) / Voluntary provident Fund (VPF)
These are retirement schemes (currently offering 8.1%/year) with the following main differences
- all salaried employees must invest in EPF while VPF is optional
- EPF is locked in until retirement age, while VPF can be withdrawn after five years
VPF, like PPF, should be considered if the asset allocation allows it and not because of the interest rate.
Sukanya Samriddhi Yojana (SSY)
SSY is allowed only for girl children and has a ₹1.5 lakhs/year limit. It offers a deduction under 80C and has a 7.6% interest rate as of today. The amount is locked in until 21 years from account opening and allows partial withdrawal once the child is 18. It is recommended that SSY is used mainly for goals like post-graduation degree and marriage due to the lengthy lock-in if your asset allocation allows it. However, if your monthly investment amount is high enough, SSY can also be used for retirement planning.
It is expected that over time, as the economy matures, these debt instrument returns will go down. Invest in them only if
- the product maturity aligns with the goal maturity (PPF is 15 years, EPF is up to retirement, and SSY is 21 years)
- the motivation is not just to save tax under 80C. There are other alternatives to save tax
Just like PPF, the interest on SSY is calculated on the 10th of the month and so you should invest as much as possible or need to by that date.
Should you max your contributions to debt investments?
This is a common question regarding investments in PPF, VPF and SSY. On one hand, we have the allure of the “government-backed secured returns”. On the other hand, we need to beat inflation for 30-40 years in retirement, which can be done by equity and is impossible via debt investments.
Our position on PPF, VPF and SSY investments is this: follow a step-by-step process:
- find out how much you need as a retirement corpus: How much corpus is needed to spend 1 lakh per month in retirement?
- how much do you need for children’s education goals, if applicable: How much will my child’s college education cost?
- are you planning to buy a house: Goal-based investing: how to purchase your dream home
Once you have these three corpus figures, you can use one of these calculators to know your monthly SIP amount and asset allocation between debt and equity:
- the online Goal-based Investing calculator for each goal
- this comprehensive Goal-based Investing Excel planner for all goals together
Your debt proportion should go into EPF, PPF, VPF and SSY (if you have a girl child) only up to the limit allowed by the debt SIP amount. If you do not have a large exposure to equity already, your debt allocation will possibly come lower than your current debt investments. In such a case, your entire monthly SIP should only be in equity. You can choose equity funds from here: Which index funds to invest in and why?
Most salaried employees have to choose their tax regime (old vs. new) along with 80C and other deductions in April. A quick way, if you have not thought about where you plan to invest under 80C is to declare ₹1.5L in PPF since you can always edit this later. The same concept applies to health insurance (80D) and HRA.
Choosing old vs new tax regime
The new tax regime, introduced in Budget 2020 as Section 115BAC, is a more straightforward taxation system that forgoes a few regular deductions (like 80C, HRA etc) in return for lower tax slabs. Every tax payer must check, based on their investments and expenses like house on rent, life insurance premiums and investments like EPF etc, whether the new tax regime is applicable to them or not, and if not they should choose the old tax regime. Generally, if your taxable income is more than ₹15 lakhs and you have deductions like 80C and HRA, then you should take the old tax regime.
15H and 15G
You should submit 15H or 15G forms for avoiding TDS on dividends from companies and bank fixed deposits if you are below the 30% tax bracket. If you are already in the 30% tax bracket, though, there is no need to submit these forms since you will anyway pay tax at 30% on this income.
Benefit of the debt-type asset indexation rule in rebalancing
Since CII goes up with time, it makes sense to buy debt-taxed funds as early as possible and sell them as late as possible to take advantage of this tax calculation.
In general, assets with indexation benefit on the purchase price, irrespective of appreciation, will lead to lower taxes the longer they are held. Of course, you should not keep capital blocked solely to have the benefit of indexation but a bit of planning is important.
If you are rebalancing annually, it makes sense to do it in March/April. The following thumb rules can be used to time purchases and redemptions for rebalancing and harvesting:
- sell equity-taxed funds and buy debt-taxed funds sometime before 31-Mar
- buy equity-taxed funds and sell debt-taxed funds just after 1-Apr
You get one extra year of indexation benefit in both cases for debt-type funds.
Given that AMCs allot new MF units only on realisation of incoming funds from the investor, investors who do not have large amounts of cash handy for such trades, can use the daily SPP facility of MFUIndia to perform such switch trades. They can do this by slowly selling out of the old fund, wait for the money to come and then enter the new fund with that redeemed cash to eliminate the risk of the markets moving abruptly while they are waiting for the AMC to allocate new units.If you liked this article, consider subscribing to new posts by email by filling the form below.
Worked out case studies for goal-based investing
Case study: how this double income recently married family can perform DIY goal-based investment planning
This article shows how a young just-married couple can invest for future goals using the Arthgyaan goal-based investing tool.
Did you welcome a bundle of joy in your 40s? This article will discuss ways of planning the child’s (and your’s financial future)
This article shows how a very typical salaried couple with one child can invest for future goals using the Arthgyaan goal-based investing tool.
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Topics you will like:Asset Allocation (17) Basics (8) Behaviour (10) Budgeting (9) Calculator (13) Case Study (3) Children (9) Choosing Investments (28) FAQ (3) FIRE (10) Gold (6) Health Insurance (4) House Purchase (13) Insurance (12) International Investing (8) Life Stages (2) Loans (10) Market Movements (8) Mutual Funds (14) NPS (5) NRI (4) News (5) Pension (6) Portfolio Construction (36) Portfolio Review (22) Retirement (29) Review (7) Risk (6) Safe Withdrawal Rate (5) Set Goals (26) Step by step (8) Tax (16)
1. Email me with any questions.2. Use our goal-based investing template to prepare a financial plan for yourself
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