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together we can change ourself

Don’t want to pay tax?

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Still not done your tax planning?

Well, there is not much time left till the financial year ends on March 31, 2007.

Come to think of it, if you are paying back a home loan or are an employee contributing to the company provident fund, you may not have the need the do any more tax-related investments.

Have a question you want to ask?
But, if you are still confused, here’s help.

Step 1: Understand Section 80C

Under this section, investments made in certain instruments, and specific expenditures, are exempt from tax.

1. Contribution to the Provident Fund (Do read PF vs PPF: What’s the difference?)
A young reader wrote in telling us he has just landed his first job and has begun investing. He had a very basic question: What is the difference between PPF and PF?

We attempt to clear his doubts.

1. What is PPF and PF?

EPF/ PF

The Employee Provident Fund, or provident fund as it is normally referred to, is a retirement benefit scheme that is available to salaried employees.

Under this scheme, a stipulated amount (currently 12%) is deducted from the employee’s salary and contributed towards the fund. This amount is decided by the government.

The employer also contributes an equal amount to the fund.

However, an employee can contribute more than the stipulated amount if the scheme allows for it. So, let’s say the employee decides 15% must be deducted towards the EPF. In this case, the employer is not obligated to pay any contribution over and above the amount as stipulated, which is 12%.

PPF

The Public Provident Fund has been established by the central government. You can voluntarily decide to open one. You need not be a salaried individual, you could be a consultant, a freelancer or even working on a contract basis. You can also open this account if you are not earning.

Any individual can open a PPF account in any nationalised bank or its branches that handle PPF accounts. You can also open it at the head post office or certain select post offices.

The minimum amount to be deposited in this account is Rs 500 per year. The maximum amount you can deposit every year is Rs 70,000.

2. What is the return on this investment?

EPF: 8.5% per annum

PPF: 8% per annum

3. How long is the money blocked?

EPF

The amount accumulated in the PF is paid at the time of retirement or resignation. Or, it can be transferred from one company to the other if one changes jobs.

In case of the death of the employee, the accumulated balance is paid to the legal heir.

PPF

The accumulated sum is repayable after 15 years.

The entire balance can be withdrawn on maturity, that is, after 15 years of the close of the financial year in which you opened the account.

It can be extended for a period of five years after that. During these five years, you earn the rate of interest and can also make fresh deposits.

Save tax and get rich

April 25, 2006

Death and taxes, they say, are unavoidable. While there is nothing really you can do about the first, tax saving instruments can relieve some of the pain caused by the latter.

While tax-saving instruments like Employees Provident Fund, Public Provident Fund and National Savings Certificate have been there for a long time, Equity Linked Savings Schemes are now offering investors a way to look beyond the world of low returns. These are mutual funds that invest in stocks and offer a tax benefit under Section 80C.

Though ELSS — also known as tax planning funds — have been available for more than a decade, Budget 2005 changed the dynamics of the ELSS universe. The hike in investment limit in ELSS changed from a mere Rs 10,000 to Rs 1,00,000 and threw open the possibility of building wealth through tax planning.

How to select a good fund
Have a query regarding mutual funds? Maybe we can help.

Drop us a line and our mutual fund experts, Value Research, will do the needful.

I am 25 years old and want to start investing in funds. Since there are so many variables involved in choosing a fund which parameters should I stress on?

Do you believe I am better off taking a balanced fund compared to an equity diversified fund? Is it true that a balanced fund manager can invest up to 100% in equity and then switch to other debt instruments when he chooses to?

Can you suggest a few funds that I can start an SIP in? I am looking at an above average, long-term performance and low volatility.

– Gaurav Sharma

The most important thing is the long-term performance record. You should look for funds that have a good performance record over the long-term.

Therefore, the first thing is to avoid new funds and restrict your selection to those funds which have been around for at least three or more years.

Go for those funds which have performed well consistently in comparison to their peers as well as their benchmarks during bullish as well as bearish phases.

Let’s say a fund has the Sensex as its benchmark. In this case, you should look at how much the Sensex has risen and if your fund has delivered higher returns. Or, if the Sensex has fallen, did your fund fall by a lesser percentage?

On our Web site, we categorise funds by star ratings (one star onwards with a five star rating being the best) that take into account returns and risk.

Apart from this, see the investment objective of the fund to determine whether it focuses upon a particular sector or capitalisation or theme, and whether this suits you or not.

For example, if you think mid-cap funds will be too volatile for you, avoid the funds which have a mandate to invest in only the stocks of smaller companies.

Also keep in mind any recent events that may call for a wait and watch approach before deciding to invest. For example, a change in fund management or a change in the fund objective.

If you want to stay away from higher volatility of pure equity funds, then balanced funds will be a suitable option.

Balanced funds are safer than all-equity funds as they invest about 40% of their assets (total investments) in debt (fixed return) instruments which are not as volatile as stocks.

Therefore, the downside potential gets reduced (amount by which the Net Asset Value can drop). But, simultaneously, the upside potential is also curtailed (amount by which the NAV can rise).

All balanced funds have a stated asset allocation that defines the band within which the allocation to debt and equity instruments will move. These limits are generally adhered to. So, they may state they will have a maximum of either 50% or 60% in equity and the balance in debt.

However, there are funds which have the flexibility to move all their assets to debt funds if the outlook turns bearish. Prudential ICICI Dynamic is one such fund.

Want to invest in foreign stocks?

In this article, we are trying to do something really stupid. We are trying to tell people whose home stock market (India) is returning 30% a year to get excited about investing in markets abroad which are giving single-digit returns.

But first, let’s go step-by-step and see why everyone is suddenly talking about investing in mutual funds that invest abroad.

What has changed?

A mutual fund wanting to invest abroad could only buy stocks in companies that fulfilled two criteria.

The company must have a listed subsidiary in India (shares are listed on the stock exchange for trading).
The global parent must own at least 10% of the listed Indian subsidiary.
This made it very difficult for funds to scout for good companies; there are very few that pass this requirement, probably just 40 odd stocks.

If the fund manager wanted to invest in good stocks, especially in technology and telecom and other sectors, he could not because these companies would not have listed Indian subsidiaries.

The Union Budget in February 2006 changed this. The above restrictions have been removed. Mutual funds can now invest in whichever stocks they deem worthwhile.

Moreoever, the ceiling on the aggregate investments made by mutual funds in overseas instruments has been increased from $1 billion to $2 billion.

Money resolutions for FY 2006-2007
Why it makes sense to invest in various countries

An investor is never recommended to invest heavily in just one particular sector; this makes his investments susceptible to wild swings and his returns will be totally dependent on the performance of that particular sector.

The same point of view can be extended to geographical regions.

There can be certain region-specific events which can heavily impact the stock markets of that region, while others remain insulated to the gyrations. For example, there can be political disturbances, scams (of which India has a history) or even natural calamities that can rock a country or a region.

Take a look at Who is the Best? You Never Know chart. Over here, we have shown how the stock indices of various countries have performed over 11 years. Take a look at the annual returns.

Can you identify a particular trend? No.

Is there any specific country that has consistently outperformed other every year? No.

In fact, there is a fair degree of randomness in relative performance across the globe.

By diversifying one’s portfolio, one can benefit from the upside (rising market) and limit one’s losses should a particular country experience turbulence and a falling market.

As long as the equity markets are firing on all cylinders, it may not sound a very lucrative proposition. But spreading your equity holdings across regions can definitely add another dimension of diversification to your portfolio.

Why you must invest in stocks

Tridib Pathak became Chief Investment Officer, Chola Mutual Fund, in 2004.

In this interview, he tells readers why they should invest in stocks even now and why stocks must be an essential part of every investor’s portfolio. He also reveals his stock picking strategy.

His advice to investors
1. Don’t have unreal expectations

Today, expectations are unreal. People are being influenced by the returns attained over the past three years.

I definitely agree that individuals have made phenomenal returns over the past few years. But that was only natural as the bull run picked up in momentum.

November 2004 saw the Sensex touch 6000. By September 2005, it had reached 8000. February 2006 had the Sensex touch 11,000. Investors made a lot of money.

But you cannot expect such high returns going forward.

People have to be more realistic. I think one can expect 15% per annum over the next three to five years.

It may not seem as alluring as the past returns, but when one compares it to the other alternatives, it is a good return. You will get around 6% to 8% in other investments like bank deposits, National Savings Certificate and Public Provident Fund.

Another good aspect of investing in shares is that if you sell them after one year of buying, you end up paying no tax.

2. Don’t avoid equity

Retail investors should increase their investments in equity. Investors must buy shares and not shirk away from them in fear.

But they should be cautious; do not invest with a short-term perspective in mind. Investing in shares must always be done with the long-term perspective in mind.

When investing in equities, you should be ready to keep the money invested for at least three to five years.

Which brings us to the question: How does one invest in equity when they have no idea about stocks? That is why I recommend a mutual fund.

You go to a doctor for your medical needs and a builder for your housing need. Similarly, opt for professional help when investing.

There are a wide variety of mutual funds available in the market from various fund houses; pick up a fund that suits your investment needs.

3, Don’t invest in lump sum amounts

Don’t just make a one-time investment and forget about it. Be consistent. Investing via a Systematic Investment Plan is the best way to go about it.

This makes you a disciplined investor as you end up putting away fixed amounts every single month.

Also, this works for your benefit over the long term; you end up buying units at high levels and low levels so it evens out.

But never take an SIP for just a year. Here too you must opt for around three to five years. This will enable you to ride the entire stock cycle of high and low fluctuations.

The kind of investor he is

I don’t believe in putting investors in various categories like aggressive or conservative. The definitions are very relative.

If someone defines an aggressive investor as one who churns his portfolio often (keeps buying and selling shares) or buys momentum stocks, I would not fit into his definition of an aggressive investor.

But if someone defines an aggressive investor as one who looks at stocks that nobody else is considering and buys them simply because he believes they are sound companies that will deliver huge returns in the coming years, then I am aggressive.

I like to define myself as a disciplined investor who follows a stock-specific approach.

How he picks stocks

We follow a different strategy for large-cap and small-cap stocks.

Large-caps

When picking large-cap stocks, we first look at the sector. We look at all the sectors and narrow down on a few. The sectors that we are bullish on, we give more weightage to.

Within a sector, we identify stocks.

So we follow a top-down method by picking up an industry and then looking for the company.

We have a list of stocks for each sector. These stocks are all ranked according to our preference and based on these rankings, we invest.

Mid-caps


We follow five attributes when picking mid-cap stocks.

1. Sunrise industry. Does the company that have the right strategy in such a sector that will help it do well in the future?

An example here would be one of our picks in the retail industry way back in 2004.

2. Niche business. Does the company operate in a niche area and is not affected by other players?

An infotech stock was one such example. The company focussed on particular locations in Europe, where it has become the market leader and operates in human resources and IT services.

3. Market leaders. Is the company a leader in its own businesses?

We selected a leading courier company here.

4. Large-cap proxies. Is the company a proxy to a large-cap? In the sense that they are from the same industry and, because this is a mid-sized company, there is a discount in valuation (stock is going cheaper than what it is actually worth). The company’s fundamentals do not merit the discount.

We bought stocks of a cement company which was hugely profitable and was available cheaper by 40% to 50% than to the rest of the industry.

5. Globally competitive. A company doing big things outside India and looking at a wider canvas than India only.

Unlike large-caps where we follow a top-down strategy, over here we follow a bottom-up strategy.

We will not pick up a stock which is doing well simple because the business cycle is doing well. We will invest in a mid-cap because we believe that it has the potential to be a large-cap tomorrow.


What you should look for

The fund manager’s ability and the quality of fund management offered by the mutual fund are important parameters.

The success will depend upon the ability of the fund manager to identify the right stocks in the right markets to make the most of them.

The quality of fund management too will play a vital role. In the future, as fund houses launch their offshore funds, look for those with global expertise in fund management. Don’t just go by their performance in the Indian market.

Having a presence in business of investment management across the globe should ensure they have a fair knowledge of different markets.

Funds: Right time to sell?

What might affect returns?

Even if the fund manager does a good job, exchange rate fluctuations may affect returns.

This is because investments in foreign currency denominated shares are prone to currency risks. If the foreign currency depreciates vis-a-viz the rupee, it will impact your returns negatively.

Let’s say Rs 45 = $1

If the value of the rupee falls until Rs 46 = $1, it means the rupee has weakened and the dollar has strengthened.

If the value of the rupee rises and Rs 44 = $1, then the rupee has strengthened and the dollar has weakened.

Now, if the rupee value is Rs 45 = $1, and a person wants to covert $1000 into rupees, it will be Rs 45,000.

If the rupee weakens to Rs 46, he will get more (Rs 46,000) when converting. But if it strengthens to Rs 44, he will get less (Rs 44,000) when converting.

For example, in the four-year period from 2002 to 2005, the Indian rupee has appreciated by more than 6% against the US dollar. There would be a direct negative impact of this appreciation on the returns of an investor (in terms of the Indian currency), who would have made an investment in dollars over this period.

This would require additional skills on part of the fund manager to manage the exchange rate volatility and guard the returns from the potential adverse exchange rate movements.

The players

In June last year, I began SIPs in the following funds. I plan to hold on to them for at least 10 years.

HDFC Capital Builder: Rs 2,000
HDFC Prudence: Rs 2,000
HDFC Top 200: Rs 2,000
Magnum Global: Rs 2,000
Prudential ICICI Dynamic: Rs 2,000
Reliance Growth: Rs 2,000

I would like to add two more funds to my list:

HDFC Equity Fund � Rs 2,000
Pudential ICICI Discovery Fund � Rs 1,000

Your comments please.

– Mark

You have invested in some of the best available funds. HDFC Capital Builder, HDFC Top 200, Reliance Growth are equity funds that are performing well, while HDFC Prudence is the pick of the category of balanced funds.

Magnum Global has also raced ahead in the last two years, and currently enjoys a five-star rating. We categorise funds by star ratings (one star onwards with a five star rating being the best) that take into account returns and risk.

Prudential ICICI Dynamic, though, has lagged, and is currently is a two-star fund. But the fund is trying to make a comeback and its performance in the last year has been very encouraging.

Among the two funds that you plan to add to your portfolio, HDFC Equity is a star performer and arguably the most consistent diversified equity fund.

Prudential ICICI Discovery started off extremely well. But since it is a new fund and is yet to establish itself, it would be advisable to invest just a small portion in it for the time being. Let it prove its worth before entrusting higher amounts to it.

Overall, you have a good collection of funds, and you are also doing the right thing by investing via a Systematic Investment Plan.

Do keep an eye on the number of funds in your portfolio. With the addition of the last two, the count would rise to eight. You should not need more funds.

Rather, keep investing regularly in these funds and review their performance from time to time.

Got a question for Value Research? Please write to us!

Note: Questions may be edited for brevity. Due to the tremendous response, all queries will not be answered.

Disclaimer: While efforts have been made to ensure the accuracy of the information provided in the content, rediff.com or the author shall not be held responsible for any loss caused to any person whatsoever who accesses or uses or is supplied with the content (consisting of articles and information).

The returns are mind boggling
ELSS are in the middle of a dream run. Even an average fund of this category has outperformed the Sensex in the last four successive calendar years.

In the three year period ended April 7, 2006, Magnum Taxgain delivered an annualised return of 107%, which is by far the best of any diversified equity fund or tax planning fund.

Last year, an average tax planning fund gave a return of 51.66% while the Sensex only rose by 42.33%. This time Magnum Taxgain rose by 96.06%. The second best — HDFC Taxsaver — was way behind with a return of 74.84%.

Of the 23 tax saving funds, 14 have outperformed the Sensex this year from January 1 to April 7.

You simply cannot ignore tax planning funds.

Consider this: Rs 1,00,000 (which is the limit under Section 80C) invested even in the worst tax-planning fund in the past five years through the Systematic Investment Planning route (which requires fixed amounts every single month) would have built a corpus of over Rs 12 lakh (1.2 million). Had you invested in the best fund during the period, you would have been sitting on a cool Rs 27.51 lakh (Rs 2.7 million)!

This is a huge amount if you consider the returns of your other tax-planning investments.

Want to invest in foreign stocks?
ELSS can be volatile…

In 2002, there were few mid-cap oriented portfolios and nearly 80% of the funds had portfolios dominated by large-cap stocks. Things changed from 2003 onwards when mid- and small-cap stocks started to blossom.

As things stand today, only a quarter of the tax-planning funds have large-cap dominated portfolios.

While this has meant good returns for the investors, they are forced to negotiate with higher volatility and low-quality portfolios.

With the markets being so volatile and scaling new heights, fund managers are playing it safe and making an effort to diversify their risk by bringing in more stocks into their portfolios.

For instance, in March last year, funds had invested in only 261 individual stocks. Today, that number has increased to 428.

Why you must invest in stocks
Act now!
So, dear reader, don’t wait for March to save taxes. Instead draw up a plan right away.

The money coming into ELSS indicates that the bulk of the money is being invested in March. This is the worst possible way to invest in an equity fund. You should spread your out investment over a year for tax saving purposes.

Pick a tax saving mutual fund to invest in and start a Systematic Investment Plan, where you put in fixed amounts every month. But choose your fund carefully. Any mistake here could prove expensive because your money has to be locked in for three years.

To help you choose the right fund, we have picked up the five best in the category and will be writing about them tomorrow.

4. What is the tax impact?

EPF

The amount you invest is eligible for deduction under the Rs 1,00,000 limit of Section 80C.

If you have worked continuously for a period of five years, the withdrawal of PF is not taxed.

If you have not worked for at least five years, but the PF has been transferred to the new employer, then too it is not taxed.

The tenure of employment with the new employer is included in computing the total of five years.

If you withdraw it before completion of five years, it is taxed.

But if your employment is terminated due to ill-health, the PF withdrawal is not taxed.

PPF

The amount you invest is eligible for deduction under the Rs 1,00,000 limit of Section 80C.

On maturity, you pay absolutely no tax.

5. What if you need the money?

EPF

If you urgently need the money, you can take a loan on your PF.

You can also make a premature withdrawal on the condition that you are withdrawing the money for your daughter’s wedding (not son or not even yours) or you are buying a home.

To find out the details, you will have to talk to your employer and then get in touch with the EPF office (your employer will help you out with this).

PPF

You can take a loan on the PPF from the third year of opening your account to the sixth year. So, if the account is opened during the financial year 1997-98, the first loan can be taken during financial year 1999-2000 (the financial year is from April 1 to March 31).

The loan amount will be up to a maximum of 25% of the balance in your account at the end of the first financial year. In this case, it will be March 31, 1998.

You can make withdrawals during any one year from the sixth year. You are allowed to withdraw 50% of the balance at the end of the fourth year, preceding the year in which the amount is withdrawn or the end of the preceding year whichever is lower.

For example, if the account was opened in 1993-94 and the first withdrawal was made during 1999-2000, the amount you can withdraw is limited to 50% of the balance as on March 31, 1996, or March 31, 1999, whichever is lower.

If the account extended beyond 15 years, partial withdrawal — up to 60% of the balance you have at the end of the 15 year period — is allowed.

The best tax-saving funds
Tridib Pathak became Chief Investment Officer, Chola Mutual Fund, in 2004.

In this interview, he tells readers why they should invest in stocks even now and why stocks must be an essential part of every investor’s portfolio. He also reveals his stock picking strategy.

His advice to investors1. Don’t have unreal expectations

Today, expectations are unreal. People are being influenced by the returns attained over the past three years.

I definitely agree that individuals have made phenomenal returns over the past few years. But that was only natural as the bull run picked up in momentum.

November 2004 saw the Sensex touch 6000. By September 2005, it had reached 8000. February 2006 had the Sensex touch 11,000. Investors made a lot of money.

But you cannot expect such high returns going forward.

People have to be more realistic. I think one can expect 15% per annum over the next three to five years.

It may not seem as alluring as the past returns, but when one compares it to the other alternatives, it is a good return. You will get around 6% to 8% in other investments like bank deposits, National Savings Certificate and Public Provident Fund.

Another good aspect of investing in shares is that if you sell them after one year of buying, you end up paying no tax.

2. Don’t avoid equity

Retail investors should increase their investments in equity. Investors must buy shares and not shirk away from them in fear.

But they should be cautious; do not invest with a short-term perspective in mind. Investing in shares must always be done with the long-term perspective in mind.

When investing in equities, you should be ready to keep the money invested for at least three to five years.

Which brings us to the question: How does one invest in equity when they have no idea about stocks? That is why I recommend a mutual fund.

You go to a doctor for your medical needs and a builder for your housing need. Similarly, opt for professional help when investing.

There are a wide variety of mutual funds available in the market from various fund houses; pick up a fund that suits your investment needs.

3, Don’t invest in lump sum amounts

Don’t just make a one-time investment and forget about it. Be consistent. Investing via a Systematic Investment Plan is the best way to go about it.

This makes you a disciplined investor as you end up putting away fixed amounts every single month.

Also, this works for your benefit over the long term; you end up buying units at high levels and low levels so it evens out.

But never take an SIP for just a year. Here too you must opt for around three to five years. This will enable you to ride the entire stock cycle of high and low fluctuations.

The kind of investor he is

I don’t believe in putting investors in various categories like aggressive or conservative. The definitions are very relative.

If someone defines an aggressive investor as one who churns his portfolio often (keeps buying and selling shares) or buys momentum stocks, I would not fit into his definition of an aggressive investor.

But if someone defines an aggressive investor as one who looks at stocks that nobody else is considering and buys them simply because he believes they are sound companies that will deliver huge returns in the coming years, then I am aggressive.

I like to define myself as a disciplined investor who follows a stock-specific approach.

How he picks stocks

We follow a different strategy for large-cap and small-cap stocks.

Large-caps

When picking large-cap stocks, we first look at the sector. We look at all the sectors and narrow down on a few. The sectors that we are bullish on, we give more weightage to.

Within a sector, we identify stocks.

So we follow a top-down method by picking up an industry and then looking for the company.

We have a list of stocks for each sector. These stocks are all ranked according to our preference and based on these rankings, we invest.

Mid-caps

We follow five attributes when picking mid-cap stocks.

1. Sunrise industry. Does the company that have the right strategy in such a sector that will help it do well in the future?

An example here would be one of our picks in the retail industry way back in 2004.

2. Niche business. Does the company operate in a niche area and is not affected by other players?

An infotech stock was one such example. The company focussed on particular locations in Europe, where it has become the market leader and operates in human resources and IT services.

3. Market leaders. Is the company a leader in its own businesses?

We selected a leading courier company here.

4. Large-cap proxies. Is the company a proxy to a large-cap? In the sense that they are from the same industry and, because this is a mid-sized company, there is a discount in valuation (stock is going cheaper than what it is actually worth). The company’s fundamentals do not merit the discount.

We bought stocks of a cement company which was hugely profitable and was available cheaper by 40% to 50% than to the rest of the industry.

5. Globally competitive. A company doing big things outside India and looking at a wider canvas than India only.

Unlike large-caps where we follow a top-down strategy, over here we follow a bottom-up strategy.

We will not pick up a stock which is doing well simple because the business cycle is doing well. We will invest in a mid-cap because we believe that it has the potential to be a large-cap tomorrow.

The better option?

In both cases, contributions get a deduction under Section 80C and the interest earned is tax free.

Having said that, PF scores over PPF in two aspects.

In the case of PF, the employer also contributes to the fund. There is no such contribution in case of PPF.

The rate of interest on PF is also marginally higher (currently 8.50%) than interest on PPF (8%).

2. Investment in Public Provident Fund (Do read 6 things you must know about PPF)
The Public Provident Fund is the darling of all tax saving investments.

Little wonder! You invest in it and you get a deduction on your income. Besides, the interest you earn on it is tax-free. Since it is a scheme run by the Government of India, it is also totally safe. You can be sure no one is going to run away with your money.

Here, we summarise the scheme, tell you how to open a PPF account and what to expect.

1. To open a PPF account, drop by a State Bank of India branch. SBI’s subsidiary banks can also open accounts. A list of these subsidiary banks is available on the bank’s Web site.

You can even visit the nationalised bank in your neighbourhood. Selected branches of nationalised banks can also open accounts.

The head post office or selection grade sub-post offices also open PPF accounts.

2. You will have to fill up a form. You can take a look or download the form from SBI’s web site.

Along with the form, attach a photograph and submit your Permanent Account Number. If you do not have a PAN, then furnish an attested copy of either your ration card, voter’s identity card or passport.

When you open an account, you will be given a passbook (just like a bank pass book) in which all subscriptions, interest accrued, withdrawals and loans are recorded.

3. You can have only one PPF account in your name. If, at any point, it is detected that you have two accounts, the second account you have opened will be closed, and you will be refunded only the principal amount, not the interest.

4. You cannot open a joint account with another individual. The account can only be opened in one person’s name.

You are free to nominate one or more individuals. On the death of the account holder, nominees cannot keep the account going by making contributions. If there are no nominees, the legal heirs get the money.

You can open one account for yourself and others for your child/ children. But, on your death, your children cannot make any additional contributions.

5. The minimum amount to be deposited in this account is Rs 500 per year. The maximum amount you can deposit every year is Rs 70,000. The interest you will earn is 8% per annum.

Let’s say you open an account for your minor child. You can deposit Rs 70,000 in your account and Rs 70,000 in your child’s account. But you will only get the tax benefit on Rs 70,000.

Just because you have one account for yourself and one for your child, it does not mean the tax benefit is doubled. The limit is the same — Rs 70,000 — irrespective if it all goes in your account or is divided betweeb your account and your child’s account.

You can make up to 12 deposits in one year. You don’t have to put in this money at one go.

6. The PPF account is valid for 15 years.

The entire balance can be withdrawn on maturity, that is, after 15 years of the close of the financial year in which you opened the account.

So, if you opened it in FY 2006-07 (this financial year), you will be able to withdraw it 15 years later, starting March 31, 2007 (end of this financial year). That means your PPF matures on April 1, 2022.

It can be extended for a period of five years after that. During these five years, you earn the rate of interest and can also make fresh deposits. Once your account expires, you can open a new one.

The only limitation is that you cannot withdraw it until seven years are completed, after which 50% of your deposits can be withdrawn, if needed.

Do consider opening a PPF account if you do not have one. You can put in as little as Rs 500 a year to keep it going.

3. Payment of life insurance premium (Do read Insurance terms you must know)
It’s easy to get confused when opting for an insurance policy. The jargon can be quite overwhelming and you may end up getting baffled and going for whatever the agent recommends.

Here we explain the basic insurance lingo that you must get a grasp on.

Buying insurance? Ask these questions
1. Premium

This is the amount you pay to the insurance company to buy a policy.

A single premium policy will need you to pay just one lump-sum amount.

The annual premium policy will require you to pay every year. This will go on for a fixed period of time. The exact number of years will depend on the scheme in question.

2. Insurer and Insured

The person in whose name the insurance policy is made is referred to as the policy holder or the insured. So, if you have taken an insurance policy, you are the policy holder, the one who is insured.

The person whom you name as the nominee is the one who will get the insured amount if you die. The nominee is referred to as the beneficiary.

The insurer is the insurance company that offers the policy.

In India, these are the life insurance players. We have listed them in alphabetical order:

Aviva Life Insurance
Bajaj Allianz
Birla Sun Life Insurance
HDFC Standard Life Insurance
ICICI Prudential
Kotak Life Insurance
Life Insurance Corporation of India
Max New York Life
MetLife
Reliance Life Insurance
Sahara India Life Insurance
SBI Life Insurance
Shriram Life Insurance Co Ltd.
Tata AIG Life

3. Sum Assured and Maturity Value

Sum assured is the amount of money an insurance policy guarantees to pay before any bonuses are added. In other words, sum assured is the guaranteed amount you will receive.

This is also known as the cover or the coverage and is the total amount you are insured for.

Maturity value is the amount the insurance company has to pay you when the policy matures. This would include the sum assured and the bonuses.

Let’s take an example of an endowment policy.

Age of policy holder
30 years

Cover
Rs 2,00,000

Term
20 years

Annual premium
Rs 9,000

If the policy holder passes away before the policy matures, the beneficiary gets Rs 2,00,000 along with the bonus too (if any).

If he is alive when the policy matures, he will get Rs 2,00,000 as well as any bonuses declared during the tenure of the policy.

Let’s say the bonuses amounted to Rs 1,00,000. His maturity value would be Rs 3,00,000 (sum assured + bonuses).

4. Bonus
This is the amount given in addition to the sum assured.

Reversionary bonus is a bonus that is added to policies throughout the term of the policy. It may or may not be declared every year. When it is declared, it will not be given to you immediately.

It will be payable as a guaranteed sum to the policyholder either at the end of the policy, or, if death occurs before that, to the nominee.

This bonus can either be a with-profit bonus or a guaranteed bonus.

A with-profit bonus is linked to the profit of the company. If the company makes a profit, it declares a bonus in accordance with the profits. The profits are added to your insurance policy and given to you either on maturity of the policy or to your nominee if death occurs before that.

This bonus will be flexible as it is dependent on the performance of the company. However, once it is declared, it becomes part of your sum assured.

This is offered purely at the discretion of the insurer and depends on the profits made that year.

As opposed to a with-profit bonus, there is a guaranteed bonus.

This is part of the sum assured. It will be paid to you irrespective of the profits of the company.

5 things your insurance agent won’t tell you
5. Term and Term insurance

The term is the number of years you bought the policy for. So, if your policy lasts for 10 years (the number of years is your choice), it is referred to as one with a 10-year term.

Term insurance, on the other hand, is a type of insurance policy.

It provides policyholder with protection only. If the policyholder dies within the specified number of years (the term), his nominee gets the sum insured. If he lives beyond the specified period, the policyholder gets nothing.

This is the cheapest and most basic type of life insurance.

6. Endowment Insurance

You are given a life cover just like term insurance. If you die during this period, your beneficary will get whatever amount you are insured for.

Unlike a term insurance cover, if you live, an amount will be paid to you on maturity of the plan.

This kind of policy combines saving (because money is given to you on maturity) with some protection (your nominee gets an amount if you die).

7. Rider

It is an optional feature that can be added to a policy.

For instance, you may take a life insurance policy and an add on accident insurance as a rider. You will have to pay an additional premium to avail this benefit.

8. Annuity

Annuities refer to the regular payments the insurance company will guarantee at some future date. So, say, after you cross 55, the insurance company will start giving you a monthly or quarterly return. This is known as an annuity (premium is what you pay them).

This is often done to supplement income after retirement.

9. Surrender Value & Paid-up value

Halfway through the policy, you might want to discontinue it and take whatever money is due to you.

The amount the insurance company then pays is known as the surrender value. The policy ceases to exist after this payment has been made. Do remember, you will lose out on returns if you withdraw your policy before time.

Paid-up value is different. If you stop paying the premiums, but do not withdraw the money from your policy, the policy is referred to as paid up.

The sum assured is reduced proportionately, depending on when you stopped. You then get the amount at the end of the term.

10. Survival Benefit

This is the amount payable at the end of specified durations. These amounts are fixed and predetermined.

Let’s take an example.

Age of policy holder
30 years

Cover
Rs 2,00,000

Term
15 years

Annual premium
Rs 18,000

Now the policy promised to give back a portion of the sum assured (10%, 15%, 20%, 25%) every three years.

After 3 years: Rs 20,000
After 6 years: Rs 30,000
After 9 years: Rs 40,000
After 12 years: Rs 50,000
On maturity: Rs 60,000

Should you die during this tenure, your beneficiary will get the entire Rs 2,00,000. Irrespective of whether or not you have been paid any amount till date.

4. Investment in pension plans (Do read The best way to invest your money)

Get news updates: What’s this?

February 17, 2005

orried about your money, and what to do with it?

Investment expert Uma Shashikant answers all your investment-related questions.

I have a five-year old daughter.

I want to invest my money in such a way that I get Rs 10 lakh (Rs 1 million) from my savings/ investments. This is for my daughter’s higher studies and marriage around 15 to 18 years down the road.

I would also like to get about Rs 15,000 per month as a post retirement income, which should be around 20 years later.

I need to take medical insurance. I now have a Rs 5 lakh (Rs 500,000) life insurance cover.

I do invest in stocks and fixed deposits, but I am unable to get the right mix to fulfill my future needs.

– Raphael J T

If you can get an 8% compounded return on your investment, a saving of Rs 3,000 per month for 15 years will be enough to meet your Rs 1 million target. Start a systematic investment plan in a child care fund that invests in equity as well as debt.

As for your retirement, I presume Rs 15,000 is in today’s terms. If inflation is 4%, and you retire after 20 years, it will be about Rs 32,000 per month. If you want to create a pool whose interest you will consume for, say, 20 years after retirement, you will need to accumulate Rs 4 million in the next 20 years.

You will need this pool to pay off Rs 40,000 per year for you. You will need a little less money if you do not mind consuming part of the principal amount in your retirement years.

At an 8% return, this is Rs 7,000 per month of investment for every month over 20 years.

Can you put aside Rs 10,000 per month for these two goals?

If you find it tough, consider investing in an equity fund, where your returns will be higher and, therefore, the amount you need to save is lower.

You can look at a 75:25 ratio of investment in equity and debt. Rs 5,000 per month should be adequate if you are able to target a return of 10%. Save regularly every month and you should be fine.

Deciding on life insurance
I recently took a voluntary retirement from the Army.

I got Rs 15 lakh (Rs 1.5 million).

I have parked Rs 6 lakh (Rs 6,00,000) in a monthly income scheme and Rs 3 lakh (Rs 3,00,000) in a fixed deposit (only 5.5% return).

I have been reading a lot about mutual funds, but am not sure what kind of funds to choose.

Could you kindly guide me as to how I could get decent returns, preferably on a monthly or quarterly basis.

– Rakesh Kumar Gupta

Since you have a good amount of money in a monthly income scheme already, you have a steady source of income.

You can choose to invest in monthly income schemes of mutual funds, where not more than 30% is invested in equity (the rest is in debt) to generate income.

There is no assurance of a regular dividend, but many of them do make decent and regular payouts.

Invest about 60% of your funds in such schemes. Invest about 10% of your money in equity funds that focus on dividend yield. These funds tend to generate regular income.

The balance 30% might have to remain in the bank as a fixed deposit because you may like the stability in the return, even if it is low.

Make sure you chose more than one fund (about three is a good idea) and review how they are doing at least once every three months (every quarter). Do not be tempted to invest in an all-equity fund, because the risks could be high, and they may not generate the regular income that you are seeking.

If you think you have the risk appetite, allocate about 10% to an equity fund, review after a quarter before you make any changes.

Mutual funds are offered by financial advisors across cities, and there should be one in your neightbourhood in whose shop you will find the forms as well as the literature.

Several banks also distribute mutual funds. Check with your bank.

I earn a gross of Rs 25,000 every month.

I have invested in Franklin Templeton’s mutual funds, namely the Prima and Bluechip funds.

I have also invested in the share market, mostly via IPOs.

Do you think my portfolio is balanced?

Do you think I should invest in a pension plan? Can you suggest some?

– P Mullur

You have not mentioned your age.

If you have a long term horizon, say 10 years or more, you are perfectly fine with equity. It is good to spread your mutual fund investments across two to three products, to be able to diversify and also benefit from alternate strategies of fund managers.

A pension plan could bring some tax benefits and could be worth considering. Wait to see what the current Budget (which will be announced on February 28) has to say about new pension schemes, rules, etc, before you make a choice.

This is a new market, and new products are expected to be launched.

IPOs are risky if you do not know the company or its prospects. Be sure you invest in companies with good track record.

The Budget? What is it?
How the Budget affects you and me
I am a software engineer and generally invest in NSCs and PPF.

I want to use my money in a better way as the saving account does not give much interest. It is the same case with fixed deposits.

With the market at its peak, is this the right time to invest in shares or mutual funds? Should I wait? Please tell me the other options.

– Himanshu Mehandiratta

It might be a good idea to begin by investing small amounts in an equity fund, through a systematic investment plan.

A SIP is like having an recurring account with a mutual fund. You invest regularly in the fund and don’t put in all your money at one go. Since your investments will be spread out over the months, you need not worry about the ‘right time’ to invest, or the risk of having entered the markets at a the wrong time.

It is important to have at least a five to seven year investment horizon if you want to invest in equity markets.

The Sensex high: What’s in it for you?

I am 35-year old professional with a wife and child.

Over the last six months, I have begun to invest around Rs 20,000 per month in equity funds.

I also have a few insurance policies and am covered to around Rs 7 lakh (Rs 700,000). Should I stop them and start investing totally in mutual funds?

– Priya K

It is important that your insurance policies cover your family, in the unfortunate event that you are no longer there. From that perspective, you are likely to be under-insured at Rs 7 lakh (Rs 7,00,000). Speak to an insurance agent and make sure that your cover is adequate.

View your investment like a well balanced choice of assets. It is not necessary that the best performing investment must attract all your savings. Right from gold, to property, fixed deposits, mutual funds, insurance and equity, each has its place in your allocation.

Build your portfolio by making sure you have all the components. Allocate savings to each one of them and choose the best products under each category. For example, if your gold investment is in jewellery, it is a less efficient choice than pure gold bars that banks sell today. Once you take a portfolio view of your investments, you should be fine.

Why jewellery is a bad investment
Should you buy gold

5. Investment in Equity Linked Saving Schemes of mutual funds (Do read Want your money to grow at 108%)
The Public Provident Fund may still be the most courted tax-saving instrument, but tax-saving funds are increasingly being looked upon as a more dashing alternative.

The lure of these funds can be traced back to Budget 2005, when Finance Minister P Chidambaram ensured tax payers changed their attitude towards this investment. The hike in the investment limit in equity linked savings scheme — or ELSS as these tax-planning mutual funds are more popularly known — from Rs 10,000 to Rs 1 lakh threw open the possibility of building wealth even as you did some tax planning.

In one year, assets grew by leaps and bounds. From Rs 684.01 crore in March 2005, it steadily rose to touch Rs 5,089.90 crore in March 2006. As on October 2006, it had reached Rs 6,214.28 crore.

Another diversified equity fund?

In many ways, tax-saving funds are just diversified equity funds. They invest in stocks of various companies in different sectors. They are also open-ended in the sense that you can buy and sell these units from the mutual fund anytime you desire.

Where it differs from other diversified equity funds is in the tax benefit. These funds give a tax benefit under Section 80C of the Income Tax Act. But, to get this benefit, your investment must stay with the fund for at least three years. This means the three-year lock-in period is mandatory.

The lure of ELSS

We are all in the money game. At the end of the day, investors want to know what they are getting in return for their investment. Over the years, the average return from tax-saving funds on the whole has far outweighed any fixed-income return.

The average annual return over the past five years has varied from 16% to 108%. Compare this to the National Savings Certificate, which gives you an interest rate of 8%, and the Employee Provident Fund which gives you 8.5%. Besides having the potential to deliver the most lucrative returns, the lock-in period of three years is considerably less when compared with other tax-saving avenues like PPF (15 years) and NSC (6 years).

As on November 10, 2006, the average year-to-date returns of tax-saving funds was 25.34 per cent.

The one-, three- and five-year returns of these funds average at 40.9 per cent, 43.29 per cent and 43.77 per cent.

Playing it smart

What we have listed above are some of the reasons why you should consider such funds. But — and even though this sounds repetitive — do consider investing in ELSS through a systematic investment plan so that you can fully exploit the potential of such funds. What this means is that you invest fixed amounts every single month.

Tax planning should never be left till the end of the financial year; it should be an ongoing process. If you commit your money at one go, you will be at the mercy of the market. But by distributing it over the months, you minimise your risk.

Let’s say you invested Rs 8,000 every month over the past five years in an ELSS. That would mean an investment of Rs 4,80,000 over 60 months.

If you had invested in the one which gave the best return, you would have ended with Rs 23.95 lakh (Rs 2.3 million) at the end of five years. If you had picked the worst, you would still have ended up with Rs 9,82,000.

If we take a shorter time of three years, you would have invested Rs 2,88,000 over 36 months. The best fund would have given you Rs 6,97,000 and the worst, Rs 3,95,000.

Part II: Five best tax saving funds
Part III: New tax saving funds

6. Investment in infrastructure bonds (Do read Smart tax saving solutions)

he new year begins with its share of resolutions.

But it will also bring the taxman to your door soon.

This is to remind you that the end of the financial year is fast approaching (March 31). And you had better have your investments in place if you want to reduce your tax outgoing.

Our purpose was not just to get you thinking. We will also tell you what your options are:

Get a grip on Section 88

Section 88 of the Income Tax Act, 1961, is one of the most popular sections.

The reason: Investments covered under it offer a rebate.

A rebate is when the government gives you a concession on your income.

The actual amount of the rebate varies:

If your gross total income does not exceed Rs 150,000, you will get a 20% rebate.
If your gross total income exceeds Rs 150,000, you will get a 15% rebate.
If your gross total income exceeds Rs 500,000, Section 88 will not be applicable.
Say you have to pay Rs 18,000 as tax, and you are entitled to a rebate of 20%.

You invest Rs 50,000 in the instruments eligible for a rebate. That means you save Rs 10,000 of your tax (20% of Rs 50,000).

So instead of paying tax of Rs 18,000, you pay a tax of Rs 8,000.

The maximum amount that can be invested under Section 88 is Rs 100,000. In other words, the maximum tax that can be saved is upto Rs 20,000.

Also, the limit of Rs 100,000 has several sub-caps (mentioned below) for different investment products. The investments that fall under this section qualify for a maximum investment of Rs 70,000. Infrastructure bonds claim the balance 30% (Rs 30,000).

Or you could invest the entire Rs 100,000 in infrastructure bonds.

Mutual Funds — ELSS

Equity-linked saving schemes are basically equity funds (funds that invest a major portion of their assets in the stock market) with a tax benefit. They have the potential to give a high return but are also risky.

Maximum investment: Rs 10,000.
Lock-in period: Three years.
Return: Not fixed. Dividends and appreciation in NAV. Both are tax free.
Mutual Funds — TIPP

The Templeton India Pension Plan is a balanced fund. This means up to 40% of the money is invested in equity and the rest in debt (fixed income instruments).

Maximum investment: No cap but the tax benefit will only avail upto an investment of Rs 70,000.
Lock-in period: Three years.
Return: Not fixed. Dividends and appreciation in the net asset value (NAV). This is the cost of a unit of a fund. Both are tax free.
Small saving schemes — PPF

The Public Provident Fund stands next to none in terms of safety and tax benefits.

Maximum investment: Rs 70,000 per annum.
Lock-in period: 15 years from the date of inception. Partial withdrawals are permitted after the seventh year.
Return: 8% per annum tax free.
Small saving schemes — NSC

The National Savings Certificate has a fairly large fan following.

While the interest is taxable, a deduction can be claimed under Section 80L. Under this Section, interest in certain investments can be exempt from tax upto Rs 15,000.

Maximum investment: No cap but the benefit will only avail upto Rs 70,000.
Lock-in period: Six years.
Return: 8% taxable.
Infrastructure Bonds — IDBI/ ICICI Bank

Financial institutions like IDBI and ICICI Bank come out with bonds that also have a tax benefit under Section 88. IDBI currently has an issue open and ICICI Bank will be coming out with one by the end of this month.

Though the interest is taxable, you can claim exemption from tax to the tune of Rs 15,000 under Section 80L. It is advisable to opt for the interest on a yearly basis (to be within the Rs 15,000 limit).

If you decide to go for the cumulative option, where you get it all at one go (a lumpsum at maturity), your interest earnings that year may exceed the limit.

Maximum investment: Rs 100,000 lakh to avail of the tax benefit.
Lock-in period: Three years.
Return: 5% to 6%. When the tax break is taken into account, it works out to 8.7% to 11.71%. Interest is taxable.
Life insurance schemes

Calamities like the Gujarat earthquake and the more recent tsunami tragedy have forced people to re-look at insurance. When buying insurance, keep one thing in mind: Look to maximise your cover, not returns.

Maximum investment: It all depends on the terms of the policy. The total premium paid has to be within the Rs 70,000 limit of rebate under Section 88.
Lock-in period: Depends on the scheme opted for.
Return: Depends on the policy being purchased and the tenure you opt for.
To help you make your choice, we suggest LIC’s Jeevan Rekha.

This policy is a unique whole-life-cum-money-back policy. In this policy:

You get a guaranteed return (10% of sum assured) every five years. This return is tax free.
On death, the entire amount is given to the beneficiary (tax free).
You get a guaranteed risk cover for life.
If you enter young, you get it really cheap.
In short, a winner all the way!

But remember that this is a general analysis. And the final choice should be made only after taking professional help.

Medical Insurance Schemes (Section 80 D)

Even if you are happy that your employer covers your medical expenses, please revisit this aspect.

It is possible that you may change jobs and may be between jobs for some time, keeping your medical position open.

This definitely requires you to avail of medical insurance from third party insurance companies to cover this risk even if you do have coverage from your employer.

Medical premium payment is covered as deduction from your gross total income, hence knocking of that much income from being taxed. What this means is that the premium paid for towards the mediclaim policy is deducted from the income directly.

So first your gross total income is calculated. Then this amount is deducted, to finally arrive at the next taxable income.

The maximum amount of premium paid to be considered for deduction is Rs 10,000. And in the case of a senior citizen (above 65 years of age) in the family, the maximum amount eligible is Rs 15,000.

Maximum investment: Depends on the cover you want and need.
Lock-in period: Premium paid on yearly basis. Policy would be live till premium is paid.
Return: Coverage of the entire medical expense risk.
Pension Plans (Section 80 CCC)

This is a must in every portfolio — it enforces disciplined investing for a prolonged period of time thereby allowing the power of compounding to work its magic.

Also it is one of the few tax saving avenues available for people in the high networth bracket.

But remember that the tax saving in a pension plan is mere deferment of taxes — when you receive the pension later, the same would be taxable.

There are several plans available today, especially the unit-linked ones offered by the private operators. These plans offer a lot of flexibility and can be tailored to suit your risk-return appetite.

Just as you pay medical premiums, the same working principle applies: the investment you make in a pension plan makes you eligible for deduction from your gross total income.

Maximum investment: There is no specific cap, but tax deduction is available for maximum investment of Rs 10,000.
Lock-in period: Funds cannot be withdrawn till one attains the age of 50.
Return: Performance not guaranteed. Pension received is fully taxable.

7. Investment in National Savings Certificate (Do read 5 things you must know about NSC)
The National Savings Certificate — popularly referred to by its acronym NSC — is a post-office savings scheme. Backed by the government, it is one of the safest investment options.

Here are basics that you should be aware of.

How much goes in?

The minimum amount is Rs 100, with no upper limit on investment.

NSC is sold in denominations of Rs 100, Rs 500, Rs 1,000, Rs 5,000 and Rs 10,000. So, if you want to invest Rs 30,000, you will have to buy three certificates of Rs 10,000 each.

For how long does it stay there?

NSC is for a much shorter duration than, say, the Public Provident Fund, where your money is locked in for 15 years. Here, your money stays invested for six years from the date of investment.

What do I get?

You get 8% per annum compounded half-yearly (twice a year).

Let’s say on April 1, 2006, you invested Rs 30,000 in NSC. On April 1, 2007, your NSC account would be worth Rs 32,448.

If the rate of interest was compounded just once a year, it would be Rs 47,606 on maturity after six years. But, since it is compounded twice annually, it will be Rs 48,030.97.

Will I have to pay tax?
Sure you do.

But first let’s talk of the tax benefit.

When you invest in NSC, you get a deduction under Section 80C of the Income Tax Act. This is up to a limit of Rs 1,00,000 and includes your investment in the Employees Provident Fund and Public Provident Fund, life insurance premium payments as well as principal repayments on your home loan.

Till Financial Year 2004-2005, an individual could avail of a deduction under Section 80L of the Income Tax Act upto a limit of Rs 12,000 of interest income received during the financial year.

This deduction has been done away with from FY 2005-2006. Now, all interest income is taxable at the respective slab rate of the individual.

In other words, the interest you earn on NSC is taxable.

There are five heads of income.

1. Salary
2. Income from house property
3. Profits/ gains from business/ profession
4. Capital gains
5. Income from other sources

Interest on NSC is taxable under the head ‘Income from other sources’.

Generally, it is advisable to declare accrued interest on NSC on a yearly basis. So, over the period of six years, you could declare the interest income for each year. In such cases, it does not amount to a huge sum.

If you do not declare the interest on an accrual basis, then the entire interest earned (difference between the amount deposited and the maturity value) would accumulate in the year of maturity. You could then claim it under Section 80C, but it would be a huge amount and would be taxable at the current applicable tax rate.

Want to buy one?

Since it is a post office savings scheme, you can just approach any post office.

Incidentally, you can either hold an NSC certificate jointly with someone or hold it singly and nominate someone.

8. Investments in 5-year bank deposits (Do read 4 steps to become a millionaire)

February 25, 2005
t the start of his career, Virender Sehwag was asked on completing a blazing century: “What distinguishes you from Sachin Tendulkar?”
He simply smiled and retorted smartly: “Our bank balance!”

His play and popularity have ensured that, today, his bank balance has considerably gained. But he is not alone in this league.

A number of cricketers, film stars and pop singers hit the million mark before the age of 25. So have many young entrepreneurs, software programmers, stockbrokers and even fitness instructors.

What makes these people even more remarkable is that they did not receive a sizeable inheritance or have a famous lineage to fall back on.

They had a dream, believed in it and worked hard at it.

But while Azim Premji-style mega wealth may be elusive, becoming a millionaire is well within the reach of those who start young and develop the right habits.

5 ways to manage your money in 2005
4 things I won’t do with my money
Unusual financial resolutions for 2005
1. Don’t run from shares
There’s a huge difference between the gains (and losses) you can make by investing in the stock market compared to your returns from bank fixed deposits.

In stocks, you can make unbelievable money — it is not uncommon for people to have doubled their money in the last one year.

Compare this with an FD which will only fetch you around 5% to 7% per annum.

When you put your money in a bank deposit, you loan the money to a bank for a fixed return (rate of interest) and a fixed tenure (number of months or years). At the end, you get back your original amount and you are paid interest on the same.

When you invest in stocks, you do not invest in the market (despite what you think). You invest in the equity shares of a company. That makes you a shareholder or part-owner in the company.

The good news is that since you own part of the assets of the company, you are entitled to a share in the profits those assets generate.

On the flip side, you could lose heavily. You may have to sell your shares when the market is very low or you may have invested in a company that is incurring losses and whose share price keeps falling.

You can avoid this in a number of ways.

i. Invest smartly (easier said than done). Invest in companies that are solid and respected and here to stay. Don’t just invest in a company because your best friends’ girlfriend’s father did so.

ii. Invest in a diversified equity mutual fund (these funds invest in shares of various companies of different industries), that has consistently been providing returns.

iii. Invest with a time frame of three to five years. Because even if the markets dip, you don’t have to sell your shares. You can stay invested and sell when the market picks up.

Also, over time, prices of shares rise as the company performs. Hence, you need a long term view.

iv. Though money begets money, refrain from any sort of gambling. The odds and the initial money made may lure you, but bear in mind: at the end of the day, the house always wins.

What’s in a share? Money!
Make money with shares
Sensex? What’s that?
Growth stocks can make you rich!
How to spot a good stock
2. Save, if you’re not brave
If you know zilch about the stock markets, or think your knowledge base does not warrant any sort of investment, start saving.

Got a bonus? Got a gift? Social life dipped and you have surplus cash? Don’t spend it. Open a fixed deposit with your bank.

This advice is not restricted to sudden windfalls. Make savings a habit. View it like a bill that has to be paid. This way, a recurring deposit helps. Open one with your bank or post office.

Money, much like people, enjoys company and can grow rapidly in numbers.

Let’s say you have Rs 10,000 which you put in a recurring deposit. That means every month you agree to put in Rs 1,000. If you are getting a return of 7% per annum, at the end of one year, you will have Rs 23,080.

And the Rs 1,000 would not have made a huge dent in your lifestyle, right?

You can even do so with your mutual fund. Every month, invest a small amount in your fund.

Don’t fret. It need not be an equity fund. It could be a balanced fund or a debt fund. The latter invests in fixed return instruments and balanced funds are a mixture of equity and fixed returns. They are both safer than equity funds.

For those of you studying in college, don’t let the fact that you are not earning stop you from saving. Open a recurring deposit scheme with the post office. The post office asks for an amount as low as Rs 10 every month. Surely you can spare that much from your pocket money, if not more?

Select the right mutual fund
Invest in a mutual fund
Want to save? Here’s how
3. Shun debt

Nobody becomes a millionaire by being in debt. In fact, being in debt is a surefire way to dry your savings, but can get you into further debt.

The best example is if you are revolving credit in your card. In such a case, you only pay a fixed amount of your credit card bill every month and carry forward the balance amount to be paid the following month. You then end up paying interest not only on what you initially owed the bank, but if you spend on your card now, you are charged interest on that as well.

The interest hovers around 20% on an average.

So here is what you should do:

i. Stop borrowing from friends.

ii. Stop borrowing from your parents or siblings.

iii. Don’t use your card to buy stuff you can’t afford. If you cannot pay for it in your coming bill, don’t buy it.

iv. If you cannot afford a lifestyle, curb it. Can’t afford to buy something? Learn to do without it.

v. If you are revolving on your credit card, stop using it till you pay all the bills.

vi. If you splurge when you go out, stop. Leave your credit card at home.

Is your credit card your enemy?
How to get out of revolving credit
4. Chase your dreams

i. Don’t view investments as just money. You can even invest in an idea.

Sabeer Bhatia, the founder of Hotmail, thought it would be nice if people could access free e-mail. That is what got him started: a whim.

Doesn’t it seem that anyone of us could have come up with such a basic idea?

American investment guru Warren Buffet, while in college, had saved a small sum of money. Rather than save the money in a bank account, he purchased a pinball machine.

He had noticed that people in hair cutting salons sit idle, getting bored. With the permission of the salon owner, he installed the machine in the salon and started making a handsome profit on it.

So, you see, there is no fixed pattern or the right way to earn money. There are times you go with your gut instinct.

ii. Don’t dismiss your ideas as ridiculous outright.

iii. Don’t just sit on smart plan. Chalk out how you would want to execute it. Work out the details.

iv. Don’t let future constraints, like finances and feasibility, curtail you. One step at a time.

v. If you have it all figured out, ask around for investors. Tap your family circle, acquaintances and friends. Chances are, you will have an investor eager to pool in capital to realise your dream.

In fact, you may just be able to sell your idea to a venture capitalist.

vi. Do not get fixated about coming up with a ‘never before thought of, original idea’.

Most times, people build on an already existing concept or commodity and improve it. The important part is that your idea should add value to the product and make it better.

9. Payments towards the principal amount of your home loan (Do read Got a home loan? The tax implications)
The other day, when talking about tax saving, someone asked me if the interest payable on a home loan is directly deductible from the salary income.

When I said no, all the others were up in arms quoting Section 24 of the Income Tax Act.

While I am not disputing the section, contrary to popular perception, the interest payable on a home loan is not directly deductible from their salary or business income.

What actually happens is that a calculation of income from house property is made and, if the calculation results in a loss, it is allowed to be set off against your income.

Confused? Don’t be.

Read on to figure this out.

Let’s say you take a home loan to buy or construct a home.

Let’s also assume that is your first home.

If it is your second home, the tax calculation differs and we shall tackle that in a later article. Here, we will only look at the situation if you have taken a home loan to buy or construct your first home.

The heads under which income tax is calculated

Income from salary
Income from house property
Profits and gains of business/ profession
Capital gains
Income from other sources
How is income from house property calculated?

Rental income net of municipal taxes
= Annual value
= A

Less

Standard deduction @30% of A

= S

Interest payable on home loan

= I

Income from house property
A � S � I
= H

How it works

Self-occupied property
When you take a loan to buy a property to live in, the tax man calls it a self-occupied property.

Rent = 0
In this case, rental income is treated as ‘Nil’. Not a great favour really because you anyway don’t derive any rental income from such property as you stay there.

Therefore, when you calculate the income from this property, it will always result in a loss. How much is the loss? It is equivalent to the interest you pay on the home loan. Got it? The tax man views the home loan interest payment as negative income from house property.

Hence:
A = 0
S = 0 (30% of zero is zero).

Thus, the only deduction available is the interest payable on the home loan taken to buy the property.

Section 24

In such cases, where ‘A’ is allowed to be taken as nil, the deduction for interest is restricted by the tax man to a maximum of Rs 1,50,000 per annum.

Thus, in such cases, the Income from House property will always result in a loss equivalent to the interest payable on the home loan or Rs 1,50,000, whichever is lower.

This loss under the head ‘Income from house property’ is allowed to be set off against your salary/ business income.

Section 80C

The principal repaid is allowed as a separate deduction under Section 80C, subject to the overall limit of Rs 1,00,000.

Under Section 80C, investments as well as certain other payments are considered.

For example, Investments in provident fund, Public Provident Fund, infrastructure bonds, National Savings Certificate, life insurance premiums, pension plans and Equity Linked Saving Schemes of mutual funds all qualify under Section 80C.

So do payments towards the principal amount of your home loan and education fees for children.

Let’s say:

Salary income: Rs 3,20,000

Home loan interest payment: Rs 1,20,000

Home loan principal repayment: Rs 80,000

NSC investment: Rs 30,000

Rs

Salary (a)
3,20,000

Income from house property (b)*
-1,20,000

Gross total income (c) (c = a � b)
2,00,000

Home loan principal repayment
80,000

NSC investment
30,000

Section 80C investments
1,10,000

Limit for Section 80C deduction (d)
1,00,000

Taxable income (c � d)
1.00,000

Tax on taxable income#
Nil

* The tax man views the home loan interest payment as negative income from house property.

# Since tax up to net taxable income Rs 1,00,000 is nil.

10. Payments towards your children’s education fees (Do read Tax benefit on education fees)
You have a question about house rent allowance, medical allowance, or even a general tax query.

Here’s where we step in with our experts, Relax With Tax.

Got a question for Relax With Tax? Please write to us!

My sister is pursuing her LLB and my brother, his M Tech. Can I claim this amount under any section of the Income Tax Act?

– Mahesh Kumar

I am looking after my two nieces who are totally dependent on me for their studies. Can I claim this amount as deduction under any section of the Income Tax Act?

– Sudheer Babu

No. Neither of you are eligible for any deduction on your income for the education expenses incurred by you for your siblings and nieces respectively.

In our opinion, the deduction available to an individual under Section 80C is for the tuition fees paid for biological / legally adopted children only.

Hence Sudheer, in your case, if the second parameter is true, then you could claim the deduction.

Please read Are education fees tax free?

My wife is not working and is pursuing a course. I took an education loan of Rs 85,000 towards this end. Can I get the tax benefit on this amount?

– Manoj Thapliyal

Deduction for interest paid on education loan repayment is available under Section 80E only for loan repayment for yourself and if the repayment is made out of your income.

You would not be eligible to claim deduction for interest on a loan taken for your wife’s education.

Please read Tax benefits on education loans.

To see the other queries answered, read Will your gift be taxed?

Got a question for Relax With Tax? Please write to us!

Note: Questions may be edited for brevity. Due to the tremendous response, all queries will not be answered.

Disclaimer: While efforts have been made to ensure the accuracy of the information provided in the content, rediff.com or the author shall not be held responsible for any loss caused to any person whatsoever who accesses or uses or is supplied with the content (consisting of articles and information).

Overall, the limit under Section 80C is Rs 1,00,000, irrespective of how much you are earn and under which tax bracket you fall.

However, there are some individual limits. The maximum you can invest in PPF is Rs 70,000 per annum. Also, under Section 80CCC, the contribution made to pension funds is subject to a maximum of Rs 10,000.

Barring these exceptions, you can choose to invest the entire Rs 1,00,000 in any investment of your choice. Or, if you are repaying a home loan and the principal repayment amounts to Rs 1,00,000, you can claim the entire amount as deduction.

Step 2: Arrive at your investment amount

If you are employee and are contributing to the provident fund, deduct that amount from the Rs 1,00,000 you can invest to save on tax.

If you are servicing a loan, deduct the principal payment.

Check if you are paying any premiums on a life insurance policy. These too can be deducted. If there is some amount still remaining, that is the amount you invest to meet the Rs 1,00,000 limit.

This balance amount can then be invested either in PPF, NSC, bank deposits or infrastructure bonds

Public Provident Fund: This 15-year investment offers 8% per annum. You pay no tax on the interest earned. There is an annual investment limit though — Rs 500 to Rs 70,000.

National Savings Certificate: This 6-year investment also offers 8% per annum. The interest earned here is taxed.

Bank deposits: You can expect around 8 per cent interest on a five-year fixed deposit. This option scores high on convenience and safety. But, the interest earned on bank deposits is taxed.

Infrastructure bonds: Financial institutions like IDBI and ICICI come out with these investments. The interest rates are determined by the institutions and you can get bonds with tenures of three and five years onwards.

Step 3: Open an SIP

If you keen on investing in tax-saving mutual funds — known as Equity Linked Savings Schemes — then you should consider investing a fixed amount every month. This is known as a Systematic Investment Plan. The mutual fund will automatically debit a fixed amount from your bank account every month and buy mutual fund units with that amount.

It is not advisable to invest in a mutual fund at one go since the price of the units varies as the stock market goes up and down. It is safer to spread your investment over a time of period.

If you open a monthly SIP now of Rs 1,000 for a year, then you will only get the benefit of Rs 3,000 for this financial year (January, February, March). The balance amount that will continue to be invested till December (which is when you will complete a year’s investment in the fund) will get added to next year’s tax calculation.

What stopping you now?

As you can see, it is not that difficult. You just have to be organised. So do your bit to save on tax. If you government has given you an option, make use of it and don’t let laziness or lack of organisation be your excuse.
Why investing in an SIP is important

October 05, 2005
Have a query regarding mutual funds? Maybe we can help.
Drop us a line and our mutual fund experts, Value Research, will do the needful.

I do not understand these new offers of mutual funds very well and neither do I have a lot of knowledge on the stock market.

These are my current mutual fund investments:

Reliance Opportunity: Rs 100,000

Fidelity: Rs 25,000

Magnum Tax Gain: Rs 50,000

Kotak Contra: Rs 40,000

Birla GenNext: Rs 30,000

Magnum Emerging Business Growth: Rs 45,000

I have a few more investments too.

All these took place during the past six months.

What is your view on my portfolio? I don’t want to lose my capital (initial investment) even if I do not make a profit on some of the funds.

Also, is there any safe mutual fund alternative to the savings bank account?

– Asheesh Kumar Srivastava

Your fund portfolio

A look at the funds you mention above reveals that all the funds are new, except Magnum Taxgain. Hence, none of them have a performance track record.

We believe it is always better to invest in funds that have proven their worth by performing well over a period of time, across bullish and bearish phases.

Therefore, we would recommend you select well-established funds for your future investments, instead of running after new funds. All of these only have promises to back their claims, not actual performance.

Read How to compare mutual funds when deciding which ones to invest in.

Investing regularly helps

We would also like to suggest you invest smaller amounts regularly instead of investing large sums of money at one go. You can choose to invest a fixed sum of money, monthly or quarterly, in various funds. This is referred to as a Systematic Investment Plan.

In Returns delivered by mutual funds, you will see that you get a much higher investing via an SIP than you would get from a one-time investment.

The hazard with lump sum investing in an equity fund is that if the stock market slumps immediately after you invest, a substantial part of your capital might get eroded. However, by investing regularly, the possibility of incurring a substantial loss is diminished. This is because over a period of time, the cost of your investments gets averaged. You end up buying some units at a high price and some at a lower price.

Please remember that mutual funds do not guarantee your capital. Hence, although they have the potential to give great returns, there is also the risk of loss. This risk, however, gets substantially reduced if one invests regularly over the long term.

Investing in various types of mutual funds

If this risk element bothers you, you should invest in relatively less volatile funds like balanced funds rather than pure equity funds. Unlike, equity funds that invest only in shares, balanced funds invest in debt (fixed return investments) and equity (shares). Hence, you get the benefit of equity but the debt portion adds stability.

To understand balanced funds better, read Why you must invest in a balanced fund and 5 great balanced funds.

Also read How to invest in mutual funds to understand how to build a mutual fund portfolio.

Safety of capital

Regarding your second query, we have already mentioned that no mutual fund will give you a guarantee of capital. A mutual fund investment cannot be compared with a bank deposit as far as safety of capital is concerned.

However, you can consider cash funds. They can provide you with comparable or even better returns than a savings bank account. The risk of loss in these funds is also minimal.

Cash funds are known as ultra short-term bond funds or liquid funds. They invest in fixed return instruments of short maturities (tenures). Their main aim is to preserve the principal and earn a modest return. The money you invest will eventually be returned to you with a little something added.

Of course, you will not get the spectacular returns of an equity fund but you will also not face the threat of your investment being reduced to nothing.

To understand cash funds in detail, please read Tired of your savings account?

To locate some good cash funds, please read Great funds to put your spare cash into.

The dividend that you get from these funds is tax-free. The mutual fund pays a tax of 12.5% for distribution of dividend, which is ultimately passed on to the investor. Yet, it is substantially less than 30% you pay as tax on interest from bank deposits.

Please note that in case you sell your units in these funds within a year of buying them, any gain you make will be added to your income and will be taxable as per your tax slab. However, if you sell the units after a year, you pay a capital gains tax of 20% without indexation or 10% with indexation. Indexation is when inflation is taken into account when calculating your profits. Read All about capital gains to understand this in detail.

Written by Bhushan Kulkarni

January 20, 2007 at 8:36 am

Posted in Uncategorized

Tagged with

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