Tax Planning is an important component of financial planning. It involves more than just investing in a few random tax saving products, showing some expenses and filing the IT returns. Taxes, if planned properly can help in a myriad of ways –

  • You make systematic investments that will set you on the path of financial freedom. You will be able to achieve your short term and long term goals.
  • Your investments will be relevant to your needs.
  • You reduce your tax outgo.
  • You will avoid costly mistakes, investing errors or sub-optimal investment decisions that might happen when you file your returns at the last minute.
  • You will have enough time to refer to relevant documentation to file your IT returns. You will have time to refile your returns if there are any errors in filing and also get your tax refund if any without too many hassles.

So how can you ensure that you get all the advantages mentioned above? It is simple…avoid these common tax planning mistakes –

1) Lack of Knowledge of tax saving techniques

There are many legal and correct ways to save tax and reduce taxable income. You should make the best use of all these methods that are applicable to you. For example, under Section 80C, you get save taxes up to ₹ 1,50,000 by making certain investments such as PPF, ELSS and showing certain expenses like health insurance premium, fees of school going children.

You can claim deduction on the amount donated to specified research association, poverty eradication fund or fund for afforestation under Section 80GGA.

Under Section 80GG, there is a deduction for persons who do not own a house and do not receive HRA. The exemption limit is  ₹ 60,000.

Expenses such as health expenses of a disabled dependent and direct expenses related to the transfer of house property are tax exempt meaning they can be claimed as deductions while calculating tax liability.

Being unaware of all tax saving methods can lead to the payment of more tax than required.

2) Planning for taxes and filing tax returns at the last minute

Many of us make the mistake of getting all the documents for tax filing and filing the returns just days before the deadline in spite of knowing the deadline for a long time. Even though filing taxes is not a difficult process now, we procrastinate this task. This can lead to complications. The IT returns website might not work at the last minute or you are busy at work and do not have time to file the returns. We will not have time to get the documentation such as bills, Form 16, Form 26AS etc. ready. One can encounter many such issues. It is, therefore, better to plan for taxes at the beginning of the financial year, take the necessary steps throughout the year and prepare the IT returns and file it well in advance.

3) Concentrated investments in a few products

People who are risk-averse stick to products such as five-year FDs and PPF. FDs and PPF are relatively illiquid. Many are not aware that investing in tax saving mutual funds such as ELSS will provide higher returns and better liquidity while saving taxes. There was a lot of discussion on LTCG introduced last year. But that does not mean we stop investing in equity. Gains over ₹ 1,00,000 are taxable and equity investments are important for tackling inflation. You have to look at the returns, risk involved, liquidity and extent of tax savings when you invest in products for reducing tax liability.

4) Lack of awareness of your taxable income

Estimate your total income at the end of the financial year. Include your salary, rental income, interest and dividend earned etc. You should also plan for increments in income such as a salary raise or bonus. Once you know your tax liability, plan your investments and expenses efficiently such that you are able to reduce the total tax payable. If you plan ahead, you will have time to compare tax-saving instruments and different investment options and choose those that are most suitable for you. If you do not have time, you will end up investing in products that are advertised heavily or fail to invest in time. This can lead to your financial plan being in disarray and you paying more tax than necessary.

5) Keep tax planning separate from the financial plan

If you consider filing of taxes as an annual one-off activity, you are mistaken. Tax saving cannot be the only objective of investing in tax-saving instruments. This can lead to inefficient investments and lack of financial planning. Investing in last-minute tax saving instruments will be forgotten until the next tax filing cycle. For example, buying a health insurance plan so that the premium can be considered for tax-deduction purpose is not a good sign of financial planning. A health insurance plan should be purchased such that it is suitable for you and takes care of medical emergencies. Investing in tax saving mutual funds will help save taxes but that does not mean you invest a large sum in any ELSS product on a random day. It will be better to invest in a tax saving mutual fund through the Systematic Investment Plan (SIP) route.

Investments should consider wealth planning, optimum returns, liquidity, redemption etc. The investments for tax-saving purposes should be well-integrated with the financial plan.

Vidya Kumar

Dilzer Consultants Pvt Ltd

Efficient financial planning helps in saving taxes. Plan your finances in time and effectively so that your objectives of wealth creation and saving taxes go hand-in-hand.