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ELSS-NPS: The Tax Saver Combo

Updated: Jan 22

The Challenge


Taxes are the biggest nightmare for any working person.

It does not just eat up one's income but also spoils their overall wealth creation journey. It is a double whammy.


Do we have a solution which covers both the problems? Yes!

Section 80-C of Income Tax Act allows any Resident Indian to save up to 1.5L under various schemes, which helps in reducing the overall taxable income.

But do all of them work well when it comes to creating wealth?


The answer is a straight No!

Tax Saving Options


There are numerous instruments which facilitate tax saving under section 80-C. The most popular or the most subscribed ones are as follows:

  1. Public Provident Fund(PPF)

  2. Investment Linked Insurance Policies (ULIP/Money-Back/Endowment)

  3. 5 year Bank Fixed Deposits

  4. Equity Linked Savings Scheme(ELSS)

  5. National Savings Certificate(NSC)

Let us now look at some core points of comparison:

Prudent Tax Saver

But all this is just one portion of tax saving under Section 80-C.


ELSS + NPS: The Prudent Tax Saver Combo


ELSS

Equity Linked Savings Scheme, popularly known as ELSS is an effective way to not just reduce taxes but also a top-notch investment option for long-term wealth creation. As per section 80-C of the Income Tax Act, any Resident Indian can save taxes up to 46,800 by investing 1.5L in ELSS in a financial year. ELSS is a special category in Mutual Funds having a mandatory three years lock-in period, which is the least amongst the numerous tax-saving instruments applicable under Section 80-C.


Modes of Investing in ELSS

There are multiple ways in which ELSS can be invested. Here are some smart techniques which can be used to make sure there is no last-minute hassle:


  • SIP in ELSS: SIP or Systematic Investment Plan is one of the most popular and favored methods of investing in Mutual Funds. It helps in averaging the ups and downs of the market and more importantly, aids in inculcating discipline by setting aside a monthly investment amount to meet the concerned goal. For example, if a person wants to invest 1.5L in ELSS for a financial year, he can start so by doing Rs 12,500 every month to make sure he is fully covered by the end of the financial year. But one should be aware that, after every single installment of SIP or every single investment, each of them carry a 3 year lock-in period, making it a bit unsuitable for redemptions on maturity as the investors need to wait for each and every month for the lock-in period to end.

  • Lumpsum in ELSS: Lumpsum is a method of investing in Mutual Funds which does not have any specific time interval or a set periodic date where an auto-debit happens. It can be done multiple times with varying amounts based on one’s liquidity. Investors will have the luxury to deploy their required funds at their convenience. But this technique is a double-edged sword, as markets can never be timed, with the inherent risk of volatility can be a gamechanger in the overall returns of the ELSS in the long term.


NPS - How to invest in NPS in India Online

There is an additional clause which states that another Rs 50,000 can be reduced from the Taxable Income under Section 80CCD(1b) through an instrument which is extremely safe as it is government backed and at the same time, returns are also linked with the market, making it a more lucrative investment option for investors with moderate risk appetite. The product is known as National Pension Scheme(NPS)


National Pension Scheme or popularly known as NPS is a widely subscribed investment product in India and has the highest levels of safety as it is regulated by the Pension Fund Regulatory and Development Authority(PFRDA) and the Union Government. It is primarily used by the majority of adherents as a safe haven, yielding passive income post retirement to meet their routine expenditure.

Benefits of NPS

  1. Additional Tax Saving of up to Rs 16,400.

  2. 60% of the accumulated corpus is withdrawable at the age of 60, which is completely tax free. The remaining 40% is used to purchase an annuity to provide pension in the form of periodic fixed income at fixed intervals.

  3. Returns better than purely government backed schemes like PPF, NSC etc but at a higher risk

  4. Regular stream of income after retirement in the form of annuity, which can be monthly, quarterly, half yearly or annually

  5. Flexibility to choose between various asset classes based on risk appetite

  6. Authorized by PFRDA(Pension Fund Regulatory and Development Authority), making it one of the most secure forms of investments for retirement

Let us understand this using an example

Mr. Khalid, working as a software developer in a private company earns around 12 Lakhs per annum.


Below table shows the various scenarios of taxable income


Prudent Tax Saver

It is clearly visible that Mr. Khalid can reduce his taxable income by a massive amount of Rs. 2Lakhs through proper investment planning, helping him save more and also grow more through the invested amount!


Taxation on Maturity:

Insurance Linked Policies like ULIP/Moneyback and Public Provident Fund(PPF) are completely tax free at the time of maturity. Interest on FD and NSC are taxed as per marginal taxation slab rates. ELSS follows taxation based on Long Term Capital Gains, which states that profits up to Rs. 1 Lakh is exempted and anything over and above that is taxed at 10%. NPS has two parts. The first part is completely tax free as 60% of the entire corpus can be withdrawn in a single shot. The second part is treated as income as the remaining 40% of the corpus is converted into an annuity, therefore taxed as per marginal taxation slab rates.


Conclusion

It is safe to say that ELSS and NPS are most efficient for any individual looking to minimize tax liability and at the same time, helps in maximizing returns to a greater extent as opposed to the other products. The opportunity cost is significant as ELSS can be withdrawn in just 3 years and can be utilized for several other pressing purposes while the other instruments are more prone to be held for a much longer duration, making investors dependent on other avenues for immediate liquidation.


Reach out to your Financial Expert to Save Taxes. If you want to know about how to invest in NPS in India online or contact us for more information.

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