Mumbai: It’s the end of March and there’s a rush among tax payers to secure last-minute tax savings through the purchase of qualified insurance and investments. The deadline to do so is March 31 of each financial year.
It is in this rush that many tax payers will make the mistake of buying financial products that don’t suit their needs. If you’re in the market for a tax- saver, ensure that you don’t make these easily avoidable mistakes.
Not knowing your tax liabilities
Before you buy your tax saving instruments, ascertain what your tax liabilities are. Maybe you have already done some tax savings in the form of your rent paid, office PF deductions, children’s school tuition fees, eligible healthcare expenses, and existing tax-saving investments.
You should not over-invest or under-invest in tax-savers. Therefore, look at your income statements, read your salary slip, or speak to your accountant to understand your tax-saving shortfall – and then invest only to that extent.
Buying life insurance without estimating coverage needs
Buying life insurance is one of the common ways Indians save tax under Section 80C of the Income Tax Act. Life insurance is treated as a panacea for tax-saving needs. For many people, it’s a life cover, and it’s also the only way they save and invest.
Read more:March 31 Deadline: Know how to link PAN with Aadhaar
However, the primary use of a life insurance policy is to provide your dependents a way to replace your income in your untimely death. Therefore, before you buy any cover, just check if the sum assured will be enough to secure the finances of your family in the long run.
Investing without a goal
Any investment – even tax-saving investments – need to be done for an objective. The goal comes first. Tax-saving is a byproduct of the primary goal. Often, investors pick financial products with the sole motive of saving taxes.
This can lead to complications later. Before you start any investment, set a goal for it. This will help you calibrate your returns expectations, investment liquidity and the investment tenure.
Picking investments with long lock-ins
One of the problems with investing in great haste is that you don’t stop to check the lock-in period associated with the investment. This is especially a problem when you realise the investment is not the right one for you and you want to exit it.
For example, a traditional insurance plan will require you to make at least 3-5 annual premium payments. The PPF has a 15-year tenure. The NSC has a tenure of 5 years. When you start any investment, you should be comfortable with its lock- in. If not, and if you feel you’ll require liquidity in the near future, you should pick investments with short lock-ins.
Not understanding the returns from tax saver
This is one of the biggest blunders you can commit in your urgent need to save tax. The PPF today offers 8% annual returns absolutely tax-free. It’s one of the best 80C investments you can make. Therefore, any investment you make should provide you at least 8% post-tax returns every year.
In the past, we’ve seen traditional investment options that provide annual returns less than a savings bank account. Tax-saving investments are long-term investments. You cannot afford to pick a long-term investment that derails your financial progress by providing you abysmal returns.
Therefore, always stop and ask what the annual rate of return on any investment is expected to be.
Buying insurance only to save tax
Life insurance and health insurance policies are long-term financial relationships. However, in India, we see a very poor persistency ratio for life insurance. Persistency ratio indicates the number of policies renewed year after year.
In India, only about 66% life policies get renewed after five years. It means that once the tax-saving needs are fulfilled, policies are liquidated prematurely often at high exit penalties because of which the investor loses most of his money.
This needs to be avoided. Life and health insurance need to be bought only after due diligence and need to be maintained for the long-term.
Filling up forms in hurry
Another common but potentially disastrous error you can commit is filling up your tax-saving insurance forms blindly. We’ve seen in the past that unscrupulous agents ask unsuspecting buyers to sign their applications without any thought.
Lots of things can go wrong in this manner. For example, you may not declare pre-existing health conditions. These errors of omission or commission can be held against you when it’s time to make a claim.
Therefore, always insist on giving the application a thorough read and fill out all the sections of the form. Ask questions if you have confusions.
Lastly, tax-planning and investing should be a year-round activity. It’s unreasonable to put yourself through a lot of stress during the year-end to finish your investments. Therefore, in April, consult an investment advisor, or do some research yourself, and create a robust tax plan that helps you maximise tax savings, maintain liquidity and provide the best possible health and life coverage.
(Written by Adhil Shetty, CEO, BankBazaar.com)
