Taxation on your investment is as important as the return on Investment. All financial instruments go through three stages
The tax rules vary across the above three phases. This post would tell you how different financial Instruments are taxed in these three phases and what would be its impact on you.
Based on the above three stages there can be 6 possible tax treatments:
- EEE – The Exempt-Exempt-Exempt model means all three stages are tax-free. You get Tax deduction at the time of investment; the earnings are tax-free, as are the withdrawals.
- EET – The Exempt-Exempt-Tax regime gives tax deduction at the time of investment and the earning is tax-free, but withdrawal is taxed as the income at marginal rate.
- TET – Here again, the investor puts in post-tax income. While there is no tax during the growth stage, the earning is taxed at the time of withdrawal.
- TTE – This is possibly the least tax-efficient regime, with no tax deduction offered and earning fully taxable. With income taxed every year, there is no tax at maturity.
- ETE – The Exempt-Tax-Exempt arrangement offers tax deduction to investment but earning is taxed. The withdrawal is tax-free given that tax is paid at the growth stage.
- TEE – No tax deduction here for the investor. He invests post-tax income but the earning and withdrawal are tax-free if the investment is held for at least one year.
Financial Instruments and their Tax Treatment:
- PF & VPF – This is the most common investment for salaried employees. The interest rates are decided by EPFO Trust every Year.
- PPF – This is assured return scheme with Rs 1 Lakh annual investment limit.
- Life Insurance Policies – Budget 2012 says that for tax benefits, the cover should be 10 times the annual premium.
- ELSS Funds – Tax-saver with the shortest lock-in period of three years may get scrapped under the DTC.
- Unit Linked Pension Plans – Up to 33% of pension corpus withdrawn on maturity is tax-free. Rest to be put in annuity.
- Pension Policies – Annuity income is taxable as income at the normal rate applicable to the investor.
- NPS – Launched with much fanfare, it has not done too well. May be overhauled and improved soon.
- NSCs– These are now market linked like the PPF and available in 5 and 10 year options.
- Tax Saving FDs – Best tax-saving option for risk averse investors. Higher rates for senior citizens.
- Senior Citizens Savings Scheme – A popular option that is now market linked and has an investment limit of Rs 15 lakh per person.
- Stocks – If held for more than a year, no tax on capital gains. You pay 15% tax if sold before a year.
- Equity Mutual Funds – Just like stocks, there is no tax if held for more than a year. All dividends are tax free.
- Balanced Funds – Though up to 40% of the portfolio can be in debt, these enjoy the same tax benefits as equity funds.
- Tax Free Bonds – These bonds issued by infrastructure companies and carry relatively low coupon rate. Good for investors in highest tax bracket.
- Non equity hybrid funds – After a year, profit from sale is taxed at a lower rate of flat 10% or 20% after indexation.
- Debt Funds – Tax efficient way of investing in debt. After a year, profits are treated as capital gains.
- FMPs – Similar to FDs, but profits are taxed at a lower rate. Very popular among HNIs.
- Recurring Deposits – Lock into high rates even if you don’t have a lump sum. No TDS, so pay tax yourself.
- Post Office MIS – Monthly Income is fully taxable without any TDS. Onus is on the investor to pay tax.
- Fixed Deposits – TDS only up to 10% if interest is more than Rs. 10,000 a year. Here too the onus in on investor.
- Bonds – Income from tax saving infrastructure bonds is taxable.