Tax-Saving: How To Avoid Last-Minute Pitfalls

It that time of the year again. Popularly called JFM (January/February/March) by companies involved in the selling of financial products, the idea is to aggressively attract investors looking for last-minute tax-saving investments, as they fast approach the closure of the financial year. While many investors realize that it is far more prudent to make the investments much earlier, sadly, for a large investing population, most tax-saving investments are made only in the last quarter. This is either due to the lack of awareness on the benefits of investing early or simply the general tendency to postpone things until the last minute.

So what are the drawbacks of making tax-saving decisions during the last months of a financial year? And how should you approach investments?

Investing Round the Year

Firstly, the investor partially loses the power of compounding—when interest starts earning interest. The earlier you make an investment, the greater the compounding effect. So, instead of investing at the fag end of the financial year, it is better if it is done at the beginning. If poor cash flow is your excuse, you could start investing small amounts round the year through monthly premium payments or investment in mutual funds like ELSS (Equity Linked Savings Scheme) via the Systematic Investment Plan (SIP) route. This will not only ensure financial discipline but also keep the cash flow under control. This further provides benefit in the form of rupee cost averaging for market-linked investments like ELSS and ULIPs (Unit Linked Insurance Plans). In other words, you buy more units when the markets are down and fewer when they are riding high. This enables you to arrive at an average price for your investments.

Keep Long-Term Needs in Mind

Secondly, starting early means you can decide on the investment, which suits your requirement as well as your profile. You save on money too. Hence, it can become a case of good investment with tax planning becoming incidental. For example, if you need a life cover you can think and decide on what the sum assured should be, and whether you need to go in for a term plan (pure life cover) or a ULIP or an endowment plan. If the sum assured is what your financial planning demands, the thumb rule says seven or eight times your annual income should be the ideal. However, it can vary on a case-to-case basis. If you have a long-term investment horizon and can take risks, then ELSS could be the best option. And if you are risk-averse or have low to moderate risk appetite, but can invest for the long term, then PPF (Public Provident Fund) is a good option.

Of course, these decisions can be taken in the last few months of the financial year too, but the challenge is that you are running against time, as you need to submit the tax-saving receipts to your employer or else TDS (Tax Deducted at Source) at a higher rate will apply. So, in a hurry, you end up making an investment, which may be good but may not fit your profile. You may not have any other option this year if you did not plan your investments well, but you would be well advised to spend some time, in the next financial year, to take an informed decision instead of making a last-minute dash that you may repent later. 

Surya Bhatia, a Delhi-based financial consultant, is managing partner, Asset Managers.