TAX PLANNING FOR SALARIED INDIVIDUALS

• Conceptually, tax planning for salaried assessees can be divided into two broad categories namely:

– Salary Restructuring; and– Investing in Tax saving devices.

Salary Restructuring

• An employee can structure or restructure his salary so as to reduce the tax outgo on his total salary by availing of exempt allowances, benefits and reimbursements.

• There are certain allowances, benefits and re-imbursements that are either exempt from tax or valued at a lower rate depending on certain conditions.

• The salary can be restructured in a way as to separate the allowances, benefits and actual re-imbursements from the salary component and avail the tax benefits allowed on these.

• Normally the employer pays the salary and the employee makes an expenditure out of that.

• However there are certain expenditures for which the employer makes a specific payment, there are tax benefits associated with such payment.

• Therefore if an employee is likely to incur such expenditure that

• if taken in the form of an earmarked payment separate from the salary and paid by the employer,

• provides tax benefits, he could utilize the tax benefit by taking payment for such expenditure as a benefit, allowance or a reimbursement

• and separate it from the salary component.

Examples of such earmarked benefits (separate from the salary) are below:

• Rent Free Accommodation or House Rent Allowance can be availed in case the taxable income is low.

• If the taxable income is high the valuation of the perquisite could be high resulting in greater tax outgo.

• Uniform allowance: Expenses on purchases and maintenance of employees’ uniform can be paid or reimbursed by the employer.

• Uniform allowance is not considered as a perquisite u/s 10 (14).

• This however needs to be a uniform and not any civil dress.

• Education allowance: If any allowance is received for education and hostel stay of employees’ children from the employer, exemption can be claimed u/s10 (14).

• Telephone facility received by an employee at his residence is not taxable in the hands of the employee as against telephone allowance which is fully taxable.

• The employee can avail the facility of a company car (as also its maintenance and running expenses) from the employer.

• The perquisite value is nominal considering actual expenses on car.

• Medical reimbursements are exempt up to Rs.15,000 p.a. as against medical allowance which is fully taxable.

• These could be structured as a part of the salary.

• Uncommuted pension is taxable all employees.

• Employees could get their pension commuted in order to avail tax benefits.

• Commuted pension is fully exempt from tax in the case of govt. employees and partly exempt from tax in the case of non govt. employees who can claim relief u/s 89(1).

• An employee, being a member of a recognized provident fund,

• who resigns before completing five years of continuous service,

• should ensure that he joins a firm which maintains a recognized provident fund

• because the accumulated balance of the provident fund with the former employer will be exempt from tax

• provided the same is transferred to the new employer who also maintains a recognized provident fund.

• The employer’s contribution towards recognized provident fund is exempt from tax up to 12 per cent of salary.

• Employees could take the benefit of this exemption.

• Pension received in India by a non- resident assessee from abroad is taxable in India.

• If however, such pension is first received by or on behalf of the employee in a foreign country and then remitted to India, it will be exempt from tax.

• Leave travel concession is not taxable in the hands of employees if certain conditions are satisfied.

• This is another option for employees who travel and would like to utilize the tax benefit.

Investing in Tax Saving Devices:

• The second method of tax planning is by way of investment in designated schemes.

• There are many schemes that are listed by the Income Tax Department and these are to be found in Section 80 of the Income Tax Act.

• The largest is Section 80C.There is an overall ceiling for the total investment under section 80C, which currently is Rs 100,000.

• Similarly for Section 80D, the ceiling is Rs 15,000. • If you make an investment in schemes mentioned in

these section, the amount so invested is allowed as a deduction from your total income before computing the tax.

• The schemes normally follow the principle of exempt-exempt-tax or exempt-exempt-exempt at the stages of contribution-accumulation-withdrawal respectively.

Section 80C products

• Bank deposits: Term deposits in a scheduled bank with a minimum period of five years notified under the Bank Term Deposit Scheme, 2006, not only give you a fixed and assured return (around 8 per cent), but also a tax advantage.

• Term deposits are a one-time investment and there is no commitment to pay in the future.

• But remember that the entire interest income from such deposits is taxable.

• Employee Provident Fund: This is a forced saving for employees and helps them save for retirement.

• Every month, 12 per cent of your basic salary is deducted and put into a kitty maintained either by the government or your company's trust.

Example of Investments Deductions available

Amount Your numbers (in Rs)

Sections When, where and how much of deductions

Insurance premiums Rs 20,000 80C Rs 1 lakh in specified instruments like life insurance and ELSS

Public provident fund Rs 70,000 80CCC Pension plans of life insurance companies; 80C limit stands reduced by 80CCC investment

Investment in ELSS Rs 10,000 80D Rs 10,000 deduction on mediclaim, Rs 15,000 for senior citizens

Medical Insurance Premiums

Rs 10,000 80DD Rs 50,000 reduced from total income of a person with a handicapped dependent

Donations Rs 5,000 80DDB Rs 40,000 and Rs 60,000 (sr citizen) deduction for expenditure on treatments of special diseases

Other deductions Rs 0 80E Interest on education loan - entire amount tax deductible

80G Donations (all donations don't qualify for 100% deduction)

80GG Deduction according to formula for rent paid for housing

Rs 1,15,000 -- Total Deductions

80U Rs 50,000 deduction from total income for handicapped persons

Public Provident Fund

• This is a self-directed investment option. It is essentially a 15-year investment that gives a tax-free return of eight per cent as of now.

• The rate is subject to change. • Investments of Rs 500-70,000 qualify for a tax

deduction under Section 80C.

Home loans

• The total amount eligible for deduction is up to Rs 100,000 a year for the principal amount

Children's fees

• Parents can claim a deduction for tuition fees for a maximum of two children within the overall limit of Rs 100,000.

• However, payment towards development fees or donations to the institution is excluded.

National Savings Certificates

• These are for those who are less averse to risk. • This government-backed security is available at

post offices and gives an interest rate of eight per cent, compounded half-yearly as of now.

• The interest is entirely taxable. • NSCs are good for those in lower tax slabs with

an investment horizon of six years.

Equity-linked savings schemes• These are mutual fund products and carry market risk. • Like all tax saving options, these plans have a lock-in period of three years. • An ELSS is like any other equity fund. • However, the lock-in period is three years. • It comes with all the usual trappings of an equity fund, including the

choice between dividend and growth options, and systematic investment plans (SIP).

• Under the IT Act, investors investing in an ELSS can claim benefits under Section 80C.

• The limit under this Section is Rs 1 lakh. • The dividends earned in an ELSS are tax-free. • The returns at maturity are also tax-free.

Life insurance

• Your life cover premium is eligible for a tax deduction up to Rs 1 lakh under Section 80C.

• If the premium paid in any of the years is more than 20 per cent of the sum assured, then deduction will be allowed only up to 20 per cent of the sum assured.

Pension plans

• If any investment is made under this section, then the qualifying amount under Section 80C stands reduced to that extent.

• Investment in insurance and mutual fund pension plans also comes under this section with an overall limit of Rs 1 lakh.

Section 80C investments

Plans available Interest (%/yr)

Tenure (yrs) Tax status of returns

Features

Bank fixed deposit 8 5 Entirely taxable

Deposits up to Rs 1 lakh per bank per branch insured

Employee Provident Fund

8.5** Till superannuation

Tax free Interest is normally announced every April

National Savings Certificate

8 6 Entirely taxable

Highest safety

Public Provident Fund 8** 15 Tax free Withdrawals, loans available

Equity-linked savings schemes

Market linked

3 minimum Tax-free Dividend and capital gains are tax-free

Life insurance - endowment

IRR of 4-7 10-30 Tax-free Life insurance cover

Life insurance - unit linked

Market linked

5-30 Tax-free Life insurance cover

Pension plan (insurance)

Market linked

Till age 45 Pension taxable

Benefit u/s 80CCC within overall limit of 80C

UTI - Retirement Benefit Pension Fund

Balanced Fund

Till age 58 Capital gains tax

Templeton India Pension Plan

Balanced fund

Till age 58 Capital gains tax

Health insurance

• Under Section 80D, medical cover premium is tax-deductible up to Rs 10,000, with an additional deduction of up to Rs 5,000 if the policy is in the name of a senior citizen (65 years or older)

• and the premium is paid by him. • If someone below 65 buys a plan for his

dependents, he can avail benefit upto Rs 15,000.

Educational loan

• The interest on loans taken for higher education is also eligible for deduction from your total income under Section 80E.

• There is no monetary ceiling on the interest you can claim as a deduction.

• The loan must have been taken from a financial institution or an approved educational institution.

Charity

• To avail tax benefits under Section 80G, donations must be made only to specified trusts.

• The tax breaks vary according to the trust to which you have donated.

Medical treatment

• Any expenditure for the medical treatment (including nursing) of a handicapped person, training and rehabilitation of a person suffering from a permanent physical disability (including blindness) or from mental retardation,

• qualifies for a deduction under Section 80DD upto Rs 50,000.

• In case the disability is severe, the claim can go up to Rs 75,000.

Questions for Revision

• Give five ways that you would structure your salary to save tax ?

• What investments would you make to save tax and why ? Make your portfolio of tax saving investments ? What is the tax saving from your portfolio ?

The End