Mastering Tax Planning: A Comprehensive Guide to Financial Well-being
On a scorching August morning, Ramesh, an IT professional, was jolted by an unexpected notice from the Income Tax department. It demanded his presence at the Income Tax office due to his non-payment of taxes for FY22–23. Nervously, he carried his payslips and documents to the office.
Inside, the officer reviewed his documents and inquired about additional income sources. Shocked, Ramesh wondered how they knew about it. Attempting to negotiate, he asked for a reduction in the tax amount. But the officer, armed with evidence, insisted on full payment.
The officer left Ramesh with two vital pieces of advice. First, never underestimate the traceability of your financial transactions. And second, the most crucial lesson: always plan your taxes meticulously to avoid such notices in the future. Ramesh’s encounter with the tax office became an unforgettable lesson about the significance of proper tax planning.
There are many individuals like Ramesh who currently do not consider “Tax Planning” as important. When a substantial amount is deducted from their payslip, they often regret it and feel outraged, wondering how corporations can deduct such hefty sums. But we are not complainers. Hence, here are the steps through which you could manage your taxes hassle-free.
The process consists of the following steps:
1. Preparation
2. Planning
3. Execution
4. Continuous monitoring
5. March 31st — The Judgement Day
Preparation
Most importantly, you should track your inflow — the amount of money that acts as an income, whether it’s an approximate value or an accurate value to the nearest hundredth.
The best way to do this is to track your payslip if you’re an employee. Additionally, you should always keep track of any income from other sources such as rent, investments, sale of property, and more. Since most, if not all, of these are linked with your PAN (Permanent Account Number), you have to keep track of them. Otherwise, no matter how good your plan is, a time may arise when one of these may hit you and force you to pay more in taxes.
Planning
Once you’ve tracked your inflow, half of the job is done. The rest of the steps might seem tedious, but they are worth the time spent. Knowing how much money you’re going to earn in this financial cycle will determine which type of plan you should execute.
Below is the tax percentage breakup based on income according to both Tax Regimes (Old & New).
Choosing an appropriate Tax Regime is important, and the decision can be based on your income bracket.
Differences between tax slabs:
1. The Old Regime allows a tax rebate for salaried individuals up to ₹5 lakhs, while the New Regime has increased the threshold to ₹7 lakhs. (Standard Deduction of ₹50,000 for salaried employees is excluded)
2. The Old Regime allows you to claim exemptions under various sections of the law, whereas the New Regime does not allow exemptions.
3. The tax rate breakup in the New Regime is comparatively lower than that in the Old Regime.
Let me provide two examples: Person A has a net income of ₹7.5 lakhs, and Person B has a net income of ₹8.5 lakhs. For Person A, the New Regime would be beneficial, but for Person B, the Old Regime might be a better option.
Exemptions under the Old Regime
1. Section 80C (Maximum deduction ₹1.5 lakhs): Under this section, individuals could claim deductions of up to ₹1.5 lakhs by investing in various financial instruments such as Employee Provident Fund (EPF), Public Provident Fund (PPF), National Savings Certificate (NSC), 5-year fixed deposits with banks, National Pension System (NPS), and more. It encouraged long-term savings and investments.
2. Section 80D (Maximum deduction ₹50 thousand): This section allowed deductions for premiums paid on health insurance policies. Individuals could claim deductions for the premiums paid for their own health insurance, family members’ health insurance, and premiums paid for parents’ health insurance. The deduction limits varied based on the age of the insured. Up to ₹25,000 can be claimed for self, spouse, and dependent children, with an additional ₹25,000 for parents’ insurance.
3. Section 24(b) (Maximum deduction ₹2 lakh): Homeowners could claim deductions on the interest paid on home loans for self-occupied or rented properties. Additionally, under Section 80EE, first-time homebuyers could claim an additional deduction on home loan interest.
4. Section 10(14) (Maximum deduction as per the actual allowance received): This section covered various allowances provided by employers to employees, including House Rent Allowance (HRA), which allowed individuals to claim exemptions on the HRA received as part of their salary, subject to specific conditions.
5. Section 80G (Maximum deduction up to 100% of the donated amount): Individuals who made donations to eligible charitable institutions and funds could claim deductions under this section. The amount eligible for deduction varied depending on the type of organization and the donation made.
6. Section 10(38): Investors in the stock market benefited from this section as it provided an exemption from long-term capital gains tax on the sale of specified listed securities like equity shares and equity-oriented mutual funds, provided they met certain conditions.
7. Section 10(14): Apart from HRA, this section included exemptions on special allowances provided by employers, such as conveyance allowance, children’s education allowance, and more, subject to specified limits and conditions.
8. Section 80E (No Maximum Deduction Limit): This section allowed individuals to claim deductions on the interest paid on loans taken for pursuing higher education. The deduction was available for a specific number of assessment years or until the interest on the loan was fully repaid, whichever was earlier.
9. Section 10(10D) (Fully Exempted): Maturity proceeds from life insurance policies, including the sum assured and any bonuses received, were exempt from tax under this section, provided the premiums paid did not exceed a specified limit.
10. Section 80TTA: Individuals could claim deductions on the interest income earned from their savings accounts up to a maximum of ₹10,000. This encouraged small savers to earn interest without worrying about tax liability.
Calculations under the Old Regime
Given the above exemptions, Person B can easily bring the net taxable income under ₹5 lakhs. Here’s how:
Notice that we haven’t even utilized half the sections available for exemption. Such is the beauty of Tax Planning. A person earning up to ₹12 lakhs can have a net taxable income under ₹5 lakhs, given that they know the law and how to use them.
Execution
Once an appropriate plan is selected based on the income group, we can execute the plan by systematically investing the hard-earned money. Since salaries provide monthly income, proper diversification
should be done to avoid scenarios where you’re low on cash and have to deviate from the plan. To avoid such instances, diversify your investments smartly. (Include a link to a detailed article on investment diversification).
It’s also important to keep track of the investments made and update them while claiming exemptions, either during Tax Return Filing or on a monthly/quarterly basis on your company’s tax declaration portal. Maintaining discipline and sticking to the plan is crucial, as consistency is key to making your tax plan work effectively.
Continuous monitoring
Monitoring is equally important as execution. Our main goal for tax planning is to shield ourselves from any unknown income that may raise our net taxable income. Continuous monitoring allows us to be vigilant, at least quarterly if not monthly, keeping us on top of all financial inflows and outflows. This helps create strategies based on any changes that may occur.
Moreover, continuous monitoring enables us to stay up to date on various expenses that we might have previously ignored. The agility that continuous monitoring provides allows us to update the existing plan, even if we omit any of our scheduled investments.
March 31st — The Judgement Day
Just like an examination, March 31st comes as Judgment Day. You will be assessed based on how well you planned your taxes and how well you executed the plan. If everything you did was as per the plan, you will definitely come up with flying colors. In our case, you will come up with a Net 0 tax to be paid statement.
Conclusion
In summary, dealing with taxes can be tricky, but with the right approach, it can be easier to handle and even beneficial. Ramesh’s experience shows us that we should be prepared for unexpected tax issues. By following these steps — getting ready, making a plan, putting the plan into action, keeping an eye on things, and facing the final tax deadline on March 31st — we can manage our money better.
Tax planning isn’t just about paying less tax from your salary; it’s about making smart money choices that fit your goals. If you understand tax rules, exemptions, and deductions, you can make your money work for you and secure your financial future.
So, whether you’re a worker, a business owner, or an investor, consider taking the time to plan your taxes. Stay informed, adjust your plans when needed, and use the chance to succeed financially while making sure you’re in control of your taxes. Just like in life, a well-thought-out plan can make a big difference when it comes to taxes.
