Which are the best tax-saving instruments in India?

Last Updated: 29 Jun 2022

Paying taxes is an inevitable part of being a working-class citizen or entrepreneur/business owner. However, the entire ordeal of understanding the cogs of the tax machine can be confusing. Tax planning is an important financial aspect because it is largely an activity that helps you save taxes.

Tax-saving is broadly divided into two categories:

• Expenses – Deductions such as tuition fees of kids, rent, repayment of home loans, medical expenses, etc.
• Investments – specifically strategized tax-saving investments

In this article, we will list down some of the best tax-saving investment plans that can reduce your tax liability.

Tax-saving Instruments

Various instruments promise tax-saving. Along with saving your hard-earned money, this can also help you diversify your investment portfolio and reduce concentration risk. You know, the “don’t-put-all-your apples-in-one-bucket” rhetoric. These financial instruments include:

1. Equity Linked Savings Scheme (ELSS)

   ELSS is like an equity mutual fund or an index fund that invests at least 80% of its total amount in equity securities. Yielding the highest return amongst any other available instruments, ELSS has a mandatory lock-in period of 3 years. This is one of the best tax-saving instruments under Section 80C of the Income Tax Act, which allows a maximum tax exemption of Rs. 1.5 lakh.

2. Public Provident Fund (PPF)

   Offered by the Central Government, PPF is a tax-efficient investment plan for salaried people. The contributions made towards your PPF account every year are eligible for tax deductions under section 80C of the Income Tax Act, 1961. PPF accounts offer investors a triple exemption benefit of tax-free returns, deduction on deposits, and no wealth tax. The deduction limit for these deposits is Rs 1.5 lakh.

3. National Pension Scheme (NPS)

   The NPS is a systematic investment system like PPF. It enjoys the EEE (Exempt-Exempt-Exempt) status where the entire investment escapes tax at maturity and withdrawal is tax-free.

4. Unit Linked Insurance Plan (ULIP)

   ULIPs are double-shooter tax-saving instruments. They give you insurance cover as well as an investment avenue. A ULIP gives you the option of investing in stocks, bonds, or mutual funds.

   The premium paid towards this type of policy is eligible for a tax deduction under Section 80C. Further, the returns out of the policy on maturity are exempted from income tax under Section 10(10D).

5. Senior Citizen Savings Scheme (SCSS)

   SCSS allows you to enjoy a tax deduction of up to Rs. 1.5 Lakh on an investment amount. With a maximum investment limit of Rs. 15 lacs, the returns on this scheme are directed from the Central Government. So, safe to say, it’s a low-risk investment.

   The eligibility criteria are as follows:

   • Individuals aged 60 years and above
   • Individuals above 55 years of age availing voluntary retirement
   • Individuals above the age of 50 years employed in the defense sector of India

6. Sukanya Samriddhi Yojna (SSY)

   Under the ‘Beti Bachao Beti Padhao’ policy, this tax-saving instrument in India offers the highest interest rate provided by any government-mandated instrument.

   An account under SSY can only be opened by someone with a daughter who is younger than ten years old. The SSY tax benefits amount up to Rs. 1.5 Lakh per annum.

Which is better: ELSS or PPF?

ATTRIBUTE	ELSS	PPF
Risk	Low to Moderate	Very High
Returns	High	Moderate
Lock-in Period (Yrs)	3	15
Liquidity	High – Withdrawal at any time post-lock-in period	Low – Partial withdrawals after the expiry of 5 years from account opening
Tax on Returns	10% on LTCG.Gains up to 1 lakh exempted.	Exempt
Tax on Maturity	Only as above	Exempt

While both schemes are appealing in their way, the right choice differs for every individual. PPF is suited for individuals who are risk-averse and can afford a 15-year lock-in period. Whereas those investors with a larger risk appetite can earn higher returns by opting for ELSS. The best way to reduce risk is by staying invested for the long term.

Which is better: SIP or PPF?

A Systematic Investment Plan (SIP) is a method of investing a fixed amount every month in mutual funds. The recurring investment strategy averages out your purchase price and protects you from inadvertently catching a market peak when you invest.

ATTRIBUTE	SIP	PPF
Risk	High – Market-linked	Low – Government-backed
Returns	Market-linked	7.1% (Q1 of FY 2021-22)
Lock-in Period (Yrs)	NA	15 years
Liquidity	High – redeemable at any time	Low – Partial withdrawals after the expiry of 5 years from account opening
Tax Benefit	Depends on the type of Mutual Fund.	EEE (Exempt-Exempt-Exempt) category of tax
Tenure	Can be as low as 6 months or as high as 20 years	15 years – Extendable in blocks of 5 years

What Should You Choose?

Comparing a market-linked product with a fixed income one is like comparing apples to oranges. Every individual should consider the host of factors above and select a scheme best suited to themselves. However, historical data suggests that a 15-year SIP in an average fund can give you 1.5 times the returns that PPF offers, which is a lucrative option

Final words

Final words

There are multiple ways you can save tax. Be informed and updated to select an option that best suits you and your tax-saving objectives. Tax saving is also about wealth creation. The wiser ones would pay attention and absorb maximum knowledge before making the best choice.