Tax Savings and how you can save taxes legally?
There are various legal ways to save taxes in India, yet a lot of people don’t take advantage of tax saving benefits.
Listed below are some options you can explore.
1.) Saving taxes under sections 80C, 80CCC and 80CCD
To promote the culture of savings the Income Tax Department provides various incentives to taxpayers in India. If a taxpayer invests in financial instruments as specified under sections 80C, 80CCC and 80CCD, then the taxpayer can claim a deduction for those investments from their taxable income.
The maximum deduction allowed under these sections is Rs 1,50,000 per year.
This means that if you invest Rs 1.5 lacs in the instruments as specified in u/s 80C, 80CCC and 80CCD, you can save between Rs 7,500 to Rs 45000 per year depending upon your income tax bracket.
Example: Let’s assume an individual’s income is Rs 5 lakhs. There is a standard deduction of Rs 2.5 lakhs so your effective taxable income is Rs 2.5 lakhs.
If you don’t make any tax saving investments, you are liable to pay tax on the entire taxable income of Rs 2.5 lakhs. At 5% tax rate, you will pay taxes of Rs 12,500.
If you invest Rs 1.5 lakhs, then your net taxable income now reduces from Rs 2.5 lakhs to just 1 lakhs. Now, you are liable to pay tax only on Rs 1 lakhs. At 5% tax rate, you will now pay a tax of Rs 5,000.
This has two advantages:
- You have saved Rs 7,500 in taxes.
- You also have a forced savings of Rs 1.5 lakhs, which will grow in the future.
There are many investment options, which are specified by the Income Tax Department that can be used to claim this deduction.
Here is a list of most popular ones:
- Public provident fund (PPF)
- 5-year tax saving fixed deposit
- Equity-linked savings scheme (ELSS)
- Contribution to employee provident fund (PF)
- Pension plans
- National savings certificate (NSC)
- Insurance policy premium payments
- Principal repayment for a home loan
You should ideally allocate these investments for your retirement. Mostly, people make tax saving investments in PPF/NSC/PF and think that their future is secure.
These investments are only to cover inflation and will never grow your wealth in real terms.
Therefore, you can also add growth-oriented assets such as Equity oriented mutual funds (ELSS).
Additionally, you can plan to invest Rs 50,000 per year in NPS that can provide you with a tax benefit over and over Rs 1.5 lakh limit. So effectively, you can reduce Rs 2 lakhs in total if you exhaust Sec 80C limit and invest more than Rs 50,000 in NPS.
2.) Saving taxes under sections 80D, 80DD, 80DDB Section 80D
The income tax department allows you to save taxes if you have purchased a health insurance policy. A deduction is available up to a limit of Rs. 25,000 p.a. for insurance of self, spouse and dependent children. If individual or spouse is more than 60 years old the deduction available is Rs 30,000.
An additional deduction for insurance of parents (father or mother or both) is available to the extent of Rs. 30,000.
You can claim up to Rs 75,000 for expenses incurred on medical treatment of your dependents (spouse, parents, kids or siblings) if they have 40% + disability.
An individual (less than 60 years of age) can claim up to Rs 40,000 for the treatment of specified critical ailments. This can also be claimed on behalf of the dependents. The tax deduction limit under this section for senior citizens is proposed as Rs 60,000 and for very Senior Citizens (above 80 years) the limit is Rs 80,000.
3.) Saving Taxes via a home loan
You can claim up to Rs 2 lakhs as a tax deduction on the interest component of your home loan EMI repayments every year if you are residing on the same property.
If your property has been rented, then the entire interest component payable for the year can be claimed as a tax deduction.
Additionally, principal payment on a home loan is covered under section 80C.
4.) Saving Taxes via an education loan
If you have taken an education loan, any interest payment towards the loan qualifies for a deduction u/s 80E.
This loan is taken for higher education for the assessee, spouse or children or for a student for whom the assessee is a legal guardian.
5.) Saving taxes via long-term capital gains from the sale of a house
Any long-term capital gains, made by selling primary property is eligible for exemption of capital gains tax if the incremental amount is invested in specific tax saving investments (like tax saving infrastructure bonds etc.).
Any asset is considered as a long-term capital asset if the taxpayer holds that asset for more than 2 years.
Let’s assume you bought a house for Rs 50 lakhs and sold it 5 years later for Rs 1 crore. You are liable to pay long-term capital gains on the profit you have made i.e. 50 lakhs.
However, if you invest the Rs 50 lakhs in tax saving infrastructure bonds, then you will be exempted from paying capital gains tax.
6.) Saving Taxes via long-term capital gains from the sale of shares
You pay 10% long-term capital gain tax if the shares or equity mutual funds are sold after one year.
If the shares or equity mutual fund units are sold within a year from purchase date, short-term capital gain tax at 15% will be applicable.
So if you bought shares or mutual funds worth Rs 60 lakhs, which increase in value to Rs 1 crore after a year, you will not be liable to pay 10% tax on the profit of Rs 40 lakhs i.e. Rs 4 lakh.
NOTE: The deductions and tax rates mentioned above are applicable for the financial year 2018-2019 and usually change from year to year.
Great, now that you have discovered six ways to save tax legally, here are six incomes that you shouldn’t forget to declare.
1.) Interest earned from savings bank account
This interest is tax-free up to Rs. 10,000. Any interest earned above that is taxable and should be declared.
2.) Interest earned from fixed deposits/recurring deposits
This is taxable as per one’s income tax slab. Banks will deduct 10% as TDS when the interest accrued is more than Rs. 10,000 (unless one submits Form 15 G/H).
However, the actual tax liability will probably be more or less, depending upon the tax bracket of an individual.
3.) Cash gifts
Cash gifts of over Rs. 50,000 should be declared as they are taxable (unless for specific occasions like marriage).
4.) Capital gains/losses
Any capital gains/losses made from trading equities, selling mutual funds, gold, etc. should be declared even though they may be nontaxable (e.g. ULIPs, the long-term capital tax is nil). Similarly, any losses should be declared as these help in offsetting gains for subsequent years.
5.) Exempt income
Exempt income (e.g. interest earned on PPF/EPF accounts) should be declared for auditing purposes only. This is a tax-free income.
6.) Dividend income
Dividend income from equity stock holdings or mutual funds is tax-free in the hands of the investor. However, this should be declared while filing income tax returns.
Generally, many individuals who are employed will get a Form 16 from their employer, which is usually sufficient for filing your income tax returns. However, if you have income from the above 6 sources, you should declare that to your CA so that your returns can be correctly filed.
If you don’t declare an income and the IT department initiates a scrutiny against you and discovers it, you may be liable to pay a penalty.