Investing in Gold ETFs - FAQs

It should not come as a surprise that gold prices have crossed Rs 15,000 (per 10 gram) mark recently. I’ve already discussed that gold is the best performing asset class during economic crises. It is a great portfolio diversifier and therefore around 5 to 10 per cent of your portfolio should be allocated to gold.

So, if you’re planning to invest in gold, know that out of '5 different ways to invest in gold', 'Gold ETFs are considered as best' due to host of benefits they provide. This post attempts to explain the frequently asked questions (FAQs) on Gold ETFs.

1. What are gold ETFs?
Also known as paper gold, Gold ETFs are mutual fund schemes that invest in standard gold bullion (99.5% purity). They are special types of exchange traded funds (ETFs) which tracks the prices of gold (i.e. whose value is based on price of gold) and are convenient and inexpensive alternative to owning physical gold.

2. What is the origin of Gold ETFs?
The World’s first Gold ETF (exchange-traded fund) was launched in Australia in March 2003. In United States, first Gold ETF was launched in 2004.

But the idea was originated in India way back in 2002 when Benchmark filed a proposal with SEBI in May 2002. However, it could not be launched at that time due to not getting the required regulatory approval. Finally, in Feb’2007 Benchmark launched India’s first gold ETF.

3. How do Gold ETFs differ from physical gold?
Unlike physical gold, Gold ETFs are held in demat / electronic form and can be traded on a stock exchange just like buying and selling stocks.

4. How are Gold ETFs better than physical gold?
Gold ETFs definitely score over physical gold, because they eliminate the hassles and drawbacks of physical gold (e.g. impurity risk), are more tax-efficient and allow you to invest in small amounts.

5. How are Gold ETFs better than Gold Funds?
Gold ETFs are better than Gold Funds because in comparison to Gold funds, Gold ETFs are less volatile. While gold ETFs invest in physical gold, Gold Funds invest in equities of gold mining companies; and gold stocks are more leveraged to the gold prices than the gold itself.

6. What are the returns of Gold ETFs?
Returns of all Gold ETFs schemes are almost same and more or less similar to physical gold because they are passively managed fund and closely track the performance and yield of gold in the spot market. Put simply, they just hold physical gold on behalf of investors and no active fund management (to take advantage of price fluctuation in gold) is involved.

7. How are Gold ETFs taxed under Income Tax Act, 1961?
Gold ETFs schemes are treated like non-equity mutual funds for the purpose of taxation. So, the gains attract short term capital gains (STCG) tax if held for less than one year and long term capital gains (LTCG) tax if the period of holding is more than a year. As far as dividend distribution tax (DDT) is concerned, the question doesn’t arise as none of the Gold ETFs in India have declared any dividend so far.

8. Which are the currently available Gold ETFs in India?
As of now, there are five gold ETFs available in India; one each by Reliance, UTI, Benchmark, Quantum and Kotak fund house.

The NSE symbols of Gold ETFs are (GOLDBEES, GOLDSHARE, KOTAKGOLD, RELGOLD, QGOLDHALF)

Gold Benchmark Exchange Traded Fund --> GOLDBEES
UTI Gold Exchange Traded Fund --> GOLDSHARE
Kotak Gold Exchange Traded Fund --> KOTAKGOLD
Reliance Gold Exchange Traded Fund --> RELGOLD
Quantum Gold Exchange Traded Fund --> QGOLDHALF

9. How to invest in Gold ETFs?
Gold ETFs are listed and traded on national stock exchange (NSE). They are held in demat form just like the stocks. You require a DMAT account to invest in them (and for that you also require a PAN). Besides, you also require a trading account with a broker (who is a member of NSE).

Typically, each unit in Gold ETF represents one-tenth of an ounce of gold. In other words, small sum is required to gain exposure to the gold price. For example, while in case of Gold Benchmark Exchange Traded Fund (GOLDBEES), each unit corresponds to one gram of gold, Quantum Gold Exchange Traded Fund (QGOLDHALF) is available in 0.5 grams of gold.


Also see

1. NCDs - Top 10 FAQs
2. ULIPs - Top 10 FAQs
3. 5 Different Ways to Invest in Gold
4. Selecting the Best Equity Diversified Fund

Mutual Funds Pension Plans - Section 80C Another Debt Option

Though ELSS is the best section 80C option but if you’re hesitant to invest in it as the risk factor is evidently higher and doesn’t match your risk profile; there is yet another mutual fund option to invest in and also save tax under section 80C.

Yes, I’m talking about mutual fund pension plans (or funds), which are debt-oriented tax saving funds and most neglected investment option – due to lack of awareness – among all the various tax saving instruments under section 80C such as PPF, ULIPs, SCSS, NSC, ELSS, Bank’s 5 year FDs and life Insurance. Please don’t confuse them with pension plans of insurance companies.

Although branded as pension plans, these are simple debt oriented mutual fund laced with tax benefit under section 80. Unlike pension plans of life insurance companies, these plans don’t offer you any pension or annuity. As these schemes are meant to encourage you to save and invest long term for your retirement, they mandate that you stay invested till the age of 58.

At present, there are only two such funds available – UTI Retirement Benefit Pension Fund (UTI-RBPF / UTI-RBP) and Templeton India Pension Plan (TIPP).


Comparison with ELSS and PPF

Position vis-à-vis ELSS

1. Risk Factor: Unlike ELSS funds which invest 100% in equities, pension funds have the mandate to invest not more than 40% in equities. Thus, risk level of mutual fund pension plans is lesser as compared to ELSS funds.

2. Liquidity: Both ELSS and mutual funds pension plans have lock-in period of 3 years. But, unlike ELSS schemes, mutual fund pension plans – as the name suggests – are meant only for long term; therefore, these funds impose stiffer penalties for premature withdrawals even after mandatory lock-in period of 3 years is over. Thus, pension funds score poorly on liquidity factor.

3. Returns: The current 5-year returns of these funds are around 8 per cent whereas ELSS category has delivered in excess of 10 per cent. Over a longer period of, say, 15-20 years ELSS (being equity funds) deliver even more better returns than mutual fund pension plans (which are debt-oriented balanced funds).

4. Taxation of maturity proceeds: Unlike ELSS funds, where the entire proceeds received after 3 year lock in period are exempt, the mutual funds pension plans tax treatment is similar to those of debt oriented mutual funds.


Position vis-à-vis PPF

1. Risk Factor: First, while PPF is a pure debt product, mutual fund pension plans also contain some equity usually in the range of 20% to 40%. Second, while PPF offers assured return (but not fixed), the debt portion of mutual fund pension plans carries interest rate risk and credit risk. Thus, we can say that though risk is lower than ELSS but slightly higher than PPF.

2. Liquidity: Though both PPF and mutual fund pension plans score poorly on liquidity, PPF is a lot better than Pension plans in terms of making premature withdrawals. The maturity period of PPF is also less as compared to mutual fund pension plans.

3. Returns: Though the current five year returns are almost at par with PPF, mutual fund pension plans have the potential to deliver better or superior returns than traditional tax-saving instruments like PPF due to two reasons: First, as mentioned above there is some exposure to equity and second, even the debt portion is invested is market linked instruments which have the potential to give higher returns depending on the interest rate scenario.

4. Taxation of maturity proceeds: While you earn tax-free returns from PPF, mutual fund pension plans returns are taxable.


Well, mutual fund pension plans are a good option to invest. But the primary reason to invest in them should never be section 80C deduction. You should consider opting for them based on the following conditions:

a) You can spare funds for long term. As obvious, from the name itself, these are meant only for long term investment. There are exit loads to discourage investors from making early redemptions. For instance, in case of TIPP, even after the mandatory 3 year lock-in, there is a stiff penalty (i.e., exit load) of 3% before maturity and the scheme matures on your attaining 58 years of age. Thus, you should consider investing in these funds only if you can spare the funds for long term because existing prematurely is a costly proposition.

b) You’re really serious about long term financial planning and want to make provision for your retirement.

c) It should form part of your overall asset allocation. Put simply, otherwise also you would like to invest in a debt-oriented or balanced mutual fund as part of your asset allocation strategy. Here, you should consider the tax benefit under section 80C as a kind of bonus which you won’t be allowed in other debt oriented mutual funds. However, remember than tax treatment of maturity proceeds is similar in both mutual fund pension plans and plain vanilla debt oriented mutual funds.

Finally, before investing you should analyse the actual performance of these funds. As mentioned above, right now there are only two such funds available in the market namely Templeton India Pension Plan (TIPP) and UTI Retirement Benefit Plan (UTI-RBP). As per Value Research (as on February 20, 2009) while 5 year returns of TIPP are 7.81%, UTI-RBP has delivered CAGR of 8.49 per cent during the last 5 years. And, while rating of TIPP is 3 stars, UTI-RBP has been given a lower rating of two stars by Value Research.

As you must be aware that it’s always preferable to invest in 5 star or 4 star rated funds, so avoid them. If you want to invest in debt oriented or hybrid mutual funds, you can find many better performing funds. As far as tax savings under section 80C are concerned, there are many other better options to invest. For a comprehensive list, please read “Section 80C Tax Saving Options & Investment Avenues”.

ULIPs vs Traditional Insurance Plans - A Comparison

I’ve already discussed at length why you should avoid buying life insurance for investment or tax saving purposes. Anyway, if you want to invest in insurance, Ulips are no doubt better than traditional life insurance plans such as money back, endowment and whole life policies due to a host of reasons. This post makes a comparison between Ulips and traditional insurance plans based on various parameters.

Ulips vs. Traditional life insurance plans

1. Potential for better returns: Under IRDA guidelines, traditional plans have to invest at least 85% in debt instruments which results in low returns. On the other hand, Ulips invest in market linked instruments with varying debt and equity proportions and if you wish you can even choose 100% equity option.

2. Greater transparency: Unlike Ulips, in a traditional life insurance policy you’re not aware of how your money is invested, where it is invested and what is the value of your investment.

3. Flexibility in investment: The top most advantage which Ulips offer over traditional plans is the flexibility offered to you to customise the product according to your needs:

a. Flexibility to invest the money the way you want: Unlike traditional plans, Ulips allow you full discretion to choose the fund option most appropriate to your risk appetite.

b. Flexibility to change the fund allocation: Ulips also give you the option to change the fund allocation at a later stage through fund switching facility.

c. Flexibility to invest more via top-Ups: Unlike traditional plans where you’ve to invest a ‘FIXED’ premium every year, Ulips allow you flexibility to invest more than the regular premium via top-ups which are additional investments over and above the regular premium. To understand the significance and mystery of top-ups, please read “5 ULIP Secrets”.

For the purpose of tax deduction under section 80C, there’s no difference between regular premium and top-ups. In other words, top-ups are also allowed deduction under section 80C.

d. Flexibility to skip premium: In case of traditional plans, you’ve to pay premium for the entire duration of the plan. And if by chance you skip even a single remium, your policy lapses. Whereas Ulips allow you the flexibility to stop paying premium usually after three policy years. Your life cover continues by deducting the mortality charges from the existing investment corpus.

4. Flexibility in insurance coverage:

a. Option to choose coverage: While in case of traditional insurance plans, the premium is calculated based on sum assured, for Ulips premium payment is the key component based on which you can decide about the insurance coverage. Put simply, on the basis of premium, Ulips allow you to opt for any amount of sum assured within the specified range of minimum and maximum life coverage.

b. Option to increase risk cover: Unlike traditional plans where you’ve to buy a new policy each time you want to increase your risk cover, Ulips allow you to increase your insurance cover anytime.

5. Higher Liquidity (Better exit options): the possibility to withdraw your money before maturity (through surrender or partial withdrawals) is higher in case of Ulips as compared to traditional plans and also the exit costs are lower. For details, please read “How to surrender Life Insurance”.

Ulips are different and of course better than traditional insurance products; however, while in traditional plans your role is a passive one restricted to just making premium payments, Ulips require your active involvement. You’ve to make a lot of decisions such as deciding about sum assured and premium to be paid, choosing between type I or type II Ulip, making a choice among various fund options available and also deciding about fund switching from time to time based on your needs, risk appetite and market outlook.

Finally, before investing in Ulips, know the best Ulips available in the market.

Also see:
1. SBI Life-SMART ULIP: An Analysis
2. Life Insurance: Most Amazing Fact
3. ULIP Charges Capped by IRDA: A Review

How to Invest in PPF - 10 Practical Tips

Public Provident Fund (PPF) is the most popular option (among assured return schemes) under section 80C. I presume that by now you’re well aware of PPF ranking vis-à-vis NSC and would like to open a PPF account.

So, in this post topic of discussion is how to invest in PPF. There are certain tips and tricks you should know before you open a PPF account so that you can realise its full potential.

Here are the 10 practical tips on how to invest in PPF:

PPF Account Opening

1. First, you should open a PPF account even if it’s not on your investment radar. Why? Please read “10 tips for section 80c tax planning”.

Furthermore, leave aside section 80C tax-break/tax-planning, otherwise also PPF is among the best debt option available to you – particularly self-employed persons who don’t contribute to EPF – for retirement planning because it offers tax-free returns (current interest rate is 8% which translates into pre-tax yield of 12.12% for someone in the 33.99% tax bracket), exemption from wealth tax and the protection from attachment by any order or decree of court.

2. Public Provident Fund (PPF) account rules allow you to open an account in the name of your spouse or children. Children can be major or minor, son or daughter, bachelor or married, dependent or otherwise. The only restriction is that total aggregate contribution in all the PPF accounts should not exceed Rs 70,000 in a financial year (i.e. 1st April to 31st March).

Correction (6/10/2009): As per PPF rules, the aggregate limit of Rs 70,000 is only for the account of an individual and minor combined together. Contribution to other PPF accounts (spouse and major children) is excluded from this limit. The mistake is regretted. It came to light when a reader pointed it out. See comment section.

If you decide to open a PPF account in the name of your spouse or minor child, what are the tax implications? The contribution will be deemed as gift and clubbing provisions under section 64 should apply. But as the interest on PPF is exempt, there’s no income to be clubbed; therefore, nothing to worry about. On maturity of PPF account, if you reinvest the amount somewhere else, the clubbing provisions becomes applicable in both the cases: spouse and minor child. However, if by the time of maturity of PPF, child has become major, the clubbing provision under section 64 (1A) becomes inoperative (i.e., there won’t be any clubbing of income).

So, if you want to make investment in the name of your minor child, PPF is a preferred instrument to avoid the clubbing provisions of IT Act.

3. While opening a PPF account, please don’t forget to appoint a nominee. In fact this is a very important part of making any investment or buying life insurance. You’re also allowed to change the nomination at any time thereafter.


Making Contributions to PPF Account

4. One of the attractive features of Public Provident Fund (PPF) is the flexibility offered to you for making contributions. Unlike NSC, you need not invest a lump sum amount at one go. PPF gives you full discretion to invest in installments within the range of minimum amount of Rs 500 and maximum amount of Rs 70,000. Besides, unlike recurring deposits or mutual fund SIPs each PPF installment need not be the same. You can vary the amount of PPF deposit as per your convenience. Also, you can deposit more than one installment in a month. The only limitation is that the total number of installments in a year should not exceed twelve.

Thus, rather than waiting for the end of the year to deposit the one lump sum amount, keep on investing small sums on regular basis in your PPF account.


5. Make sure that you invest by the 5th of every month. Why? Because, in case of PPF accounts, interest is calculated on the lowest balance between the close of the fifth day and end of the month (though credited to your PPF account on annual basis).

6. Keep on investing in your PPF account. Never think of making premature withdrawals. Nevertheless, if ever you face a financial crunch, you can avail the facility of loan (from 3rd year to 6th year) and partial withdrawal (from 7th year onwards). However, both the facilities are subject to certain ceiling limits.

Furthermore, there’s another possibility that you’re not able to make tax-saving investments for availing the deduction under section 80C due to some temporary cash flow problem (although your financial position is ok). In such a case also you just need to rotate the funds by making a partial withdrawal from your PPF account and redepositing the amount in your PPF account.

7. Ensure that you continue to make a minimum deposit of Rs. 500 every year to keep the PPF account active. Otherwise, it becomes ‘inactive’ account and you become ineligible for loan as well as partial withdrawal. However, you can regularize or revive the discontinued PPF account after paying the prescribed default fee along with subscription arrears (i.e. a minimum of Rs 500 for each such year).

8. Though the term of PPF account is 15 years, the contribution made in 16th year (even on the last day) also qualifies for section 80C tax benefit. How? Because the PPF account can be closed only after the 15 years from the end of the financial year in which it is opened. Put another way, PPF account runs for full 15 financial years subsequent to opening and matures on 1st April of the 17th year. In other words, if you make a contribution to your PPF account on 31st March of the 16th year, and withdraw it on the next day (i.e., 1st April of the 17th year), you’ll be allowed a deduction under section 80C.


PPF Account Maturity

9. On maturity, you can still continue with your Public Provident Fund (PPF) account, if you so desire. PPF gives you option to extend the account beyond maturity, each time for another block of 5 years. Put another way, you have three options available to you:

a) Close the PPF account and withdraw the entire amount.

b) Continue the PPF account without making any further contribution and earn the same rate of interest as before the maturity. If you choose this option, you can withdraw the entire PPF amount either in a lump sum or in installments. However, you’re not allowed more than one withdrawal in a financial year.

c) Continue the PPF account with fresh subscription. Please remember that for exercising this option, you’ve to submit form H within a period of one year of maturity. Besides, also note that if you choose this option, (i.e., extending the PPF account while continuing with fresh deposits), then you’ve access to only 60% of the account balance (at the beginning of the extended period) during the next five years (i.e., 40% gets permanently blocked for another 5 years and you can’t withdraw it even in an emergency).

In other words, though you’ll continue to be eligible for section 80C deduction on fresh contributions, it will adversely affect the liquidity.

How to decide whether to close the PPF account or continue with it? The decision depends upon the facts and circumstances prevailing at the time of maturity such as your need for funds (immediate or in the near future), interest rate and availability of other investment opportunities.

10. When closing the PPF account and withdrawing the amount, make sure you do it at the beginning of a month because you are not allowed any interest for the month of withdrawal.


If you think that I’ve missed something or you’ve any other question relating to PPF, please feel free to add in the comment box.

Also see:

1. PPF vs NSC - How to Decide?

2. Section 80C - 10 Smart Tips

3. PPF Returns Calculator

4. Filing Tax Returns - 12 Practical Tips

5. 10 Reasons Why You Need a Savings Plan

6. 10 Tips for Using Credit Cards Smartly

7. 5 Secrets about ULIPs

Looking Beyond 80C: Section 80 Other Tax Deductions

Everybody knows that section 80C along with section 80CCC and section 80CCD of Income Tax Act, 1961, allows a tax deduction of Rs 1 lakh from the gross total income. I’ve already given a brief overview of various tax saving options and investment avenues eligible for deductions under section 80C and also discussed the various limitations of section 80C.

But, did you know that apart from section 80C, there are many more tax deductions available under section (u/s) 80? You can avail deduction under section 80D for health insurance, section 80DD & section 80DDB for medical treatment, section 80E for educational loan, 80G for donations and 80GG for rent paid.

Here’s a list of 7 such deductions available to individuals under section 80:


Medical Based Deductions under Section 80

1. Health insurance premium under section 80D
You can claim a deduction of Rs 15,000 (RS 20,000 in case of senior citizens) under section (u/s) 80D for medical or health insurance--popularly known as mediclaim policy--premia paid on the health of yourself, spouse and dependent children.

Additionally, (from 1st April, 2008) you’re also allowed a further deduction of Rs 15,000 u/s 80D for buying health insurance policy for your parents (Rs 20,000 if either of your parents is a senior citizen) irrespective of whether they’re dependent on you or not.

Thus, if neither you nor your parents are senior citizens, you’re allowed a maximum deduction of Rs 30,000. On the other hand, if both you and your parents are senior citizens, then the maximum limit allowed under section 80D increases to Rs 40,000.

Please also note that part payment of premium is also eligible for deduction u/s 80D. For example, suppose that your parents buy a health insurance policy having an annual premium of Rs 14,000. Out of the total premium, let’s say your parents pay only Rs 5,000 and the balance of Rs 9,000 is paid by you. So, you’ll be allowed a tax deduction of Rs 9,000 under section 80D and your parents will be allowed a deduction of Rs 5,000.


2. Medical treatment of disabled dependent under section 80DD
You’re also allowed a fixed deduction of Rs 50,000 (irrespective of the actual expenses) u/s 80DD, if you happen to incur any expenditure on the medical treatment (including nursing, training & rehabilitation) of handicapped dependent (spouse, children, parents, brothers and sisters). For severe disability, the amount of deduction available is Rs 75,000.

Furthermore, section 80DD also allows deduction on insurance premium paid on certain specified life insurance policies. JEEVAN ADHAR policy of Life Insurance Corporation (LIC) qualifies for deduction under section 80DD. The policy is meant for the maintenance of handicapped dependent after the death of the insured. This is a whole life policy with no maturity value. On the death of the insured (individual depositing the money), 20% is paid in lump sum and balance is utilized to pay annuity to the handicapped dependant or the nominee for the benefit of the handicapped dependent. If the handicapped dependent dies before the insured, the amount is refunded back and is taxable in the year of receipt.

There is yet another policy of LIC (JEEVAN VISHWAS) meant for the purpose of providing for the handicapped dependents; however, it is not eligible for deduction section 80DD of the IT Act. It is a with-profit endowment plan with guaranteed and loyalty additions.

The point worth remembering is that section 80DD allows fixed deduction of Rs 50,000 / Rs 75,000 irrespective of the expenditure incurred on the medical treatment of the handicapped dependent or amount deposited in the Jeevan Adhar Policy. It might seem absurd, but it’s true.

To know the specific ailments covered and other formalities to be completed for availing deduction u/s 80DD, please read this article by Raagvamdatt.

UPDATE: As per the changes made by Budget 2009 in section 80DD, from current financial year (FY 2009-10), while the limit of Rs 50,000 for ordinary disability remains same, the fIxed limit of Rs 75,000 for severe disability stands increased to Rs 1,00,000.

3. Medical treatment of certain specified ailments under section 80DDB
You’re also allowed a deduction of actual expenditure incurred—minus any amount reimbursed by employer or by an insurance company—up to Rs 40,000 (Rs 60,000 for senior citizens) for medical treatment of certain specified diseases and ailments (e.g. AIDS, cancer, Parkinson’s disease etc.) of yourself or any dependent family member (spouse, children, parents, bothers and sisters) under section 80DDB subject to certain conditions.

4. Handicapped person under section 80U
You’re allowed a fixed deduction of Rs 50,000, if you’re suffering from any of the disabilities specified such as blindness, hearing impairment, mental retardation or illness, leprosy-cured, low vision and locomotive disability, autism and celebral palsy. For severe disability, deduction is Rs 75,000. Please note the following points for claiming deduction u/s 80U:

1. The disability pertains to you (i.e., the taxpayer) and not any of your family members.
2. You need not spend any amount on the medical treatment.
3. A certificate is required from specified medical authority.
4. For up to 40% disability, nothing is allowed; for disability ranging from 40% to less than 80% a deduction of Rs 50,000 is allowed and if the disability is 80% or more, Rs 75,000 is allowed to be deducted from your gross total income.

Finally, see this post by taxworry to know the medical certificates / forms required to claim deduction u/s 80DD, 80DDB and 80U.


Other Deductions under Section 80

5. Educational Loan under section 80E
You’re allowed a deduction u/s 80E for the repayment of loan taken (from any bank, financial institution, or approved charitable institution) for higher studies (full time studies including graduation of specified courses such as management, engineering and medicine) for yourself or any of your family members (children, spouse).

However, the deduction u/s 80E is only for the interest portion and unlike home loans, deduction for principal repayment is not allowed. Finally, deduction u/s 80E is limited to a maximum period of 8 years.

UPDATE: As per the changes made by Budget 2009, the scope of section 80E in respect of interest on loan taken for pursuing higher education is enlarged to cover all fields of study including vocational studies pursued after passing senior secondary examinations.


6. Donations under section 80G
Donations paid to specified institutions also qualify for tax deduction under section 80G but is subject to certain ceiling limits. Based on limits, we can broadly divide all eligible donations under section 80G into four categories:

a) 100% deduction without any qualifying limit (e.g., Prime Minister’s National Relief Fund).
b) 50% deduction without any qualifying limit (e.g., Indira Gandhi Memorial Trust).
c) 100% deduction subject to qualifying limit (e.g., an approved institution for promoting family planning).
d) 50% deduction subject to qualifying limit (e.g., an approved institution for charitable purpose other than promoting family planning).

The qualifying limit u/s 80G is 10% of the adjusted gross total income.


7. Rent paid under section 80GG
If you’re either self-employed or employed but not getting any HRA from your employer, you can get a deduction under section 80GG for the rent paid by you. However, unlike HRA exemption under section 10(13A) of I.T.Act, here the maximum amount allowed is only Rs 2,000 per month (Rs 24.000 annually) and is also subject to certain conditions.

So, make sure that (in addition to section 80C, 80CCC and 80CCD), you consider all the above tax concessions available to you u/s 80 while doing your tax planning.

In fact, the first course of action while doing your tax planning is to avail to all the tax breaks related to expenses (whether under section 80C or any other section such as 80E) before making any further investment commitments for tax savings under section 80. For more details, please read how to do section 80C tax planning.


Also see:

1. Section 80C – Tax Saving Options & Investment Avenues
2. 10 Smart Tips for Section 80C Tax Planning
3. ELSS: The Best Option u/s 80C
4. Health Mediclaim Insurance – 10 Practical Tips
5. Budget 2009 Tax Highlights – Impact on Individuals

Hidden Flaws of Spending - Individual Specific Flaws (part I)

“If money be not thy servant, it will be thy master.”

-Francis Bacon

After having emphasized the importance of savings and penned down a few lines about 'another inconvenient truth' – relationship between savings and sustainable living, I wrote a brief introduction about hidden flaws of spending. So, continuing the series, this post looks at a few individual specific spending flaws:


Individual Specific Spending Flaws

1. Hedonic Adaptation
The human drive to acquire more and more gives birth to greed. Our mad and insatiable desire for possessions - Never Enough Syndrome - is nothing but a plague afflicting mankind. We never feel satisfied and keep on looking for more and more.

But, despite rising wealth and income, why we do not feel any better off? The hedonic treadmill theory compares the pursuit of happiness to a person on a treadmill, who has to keep working just to stay in the same place. Humans rapidly and inevitably adapt to good things by taking them for granted.

The more possessions and accomplishments we have, the more we need to boost our level of happiness. It explains the folly of pinning our hopes on a new car, a bigger house, or on any good fortune that comes our way, which gives us only a brief boost in happiness before we start to take it for granted. We tend to adapt, quickly returning to our usual level of happiness.


2. Impulsive Buying
When we buy some worthless stuff on our sudden & first impulse without much deliberation (i.e., without a second thought), it is called impulsive buying. The fact is that it is a very widespread and widely recognized phenomenon. Most of our purchases are made due to emotions and impulses and not logic and need. In my opinion, more than 50% of our entire purchases can be accounted for by impulsive buying.

That’s why Advertiser’s first goal is to appeal to our emotions before they appeal to our logical thinking side, because they know we are less defensive if they can get our emotions involved first.

Spending money on something that is really not needed can be a big drag on our money. And, it is one of the most important reasons why most people get into debt.


3. Instant Gratification
Most of us succumb to temptations despite knowing that we will regret later on. Having trouble with self control is quite human. As the adage goes, “A bird in hand is worth two in the bush”, we prefer an immediate gain to a delayed gain. For example, faced with a choice between a new T.V. now or a better and a cheaper model after one month, we go for the former, because the prospect of a cheaper and improved model in near future doesn’t has the same emotional appeal as a new T.V. today.

Similarly, we tend to avoid and postpone necessary but unpleasant tasks (for example, savings) even when this will imply more effort tomorrow, and we tend to overindulge in pleasant activities with immediate rewards and delayed costs (for example, unrestricted spending while using credit card) even though this may cause suffering or reduced utility in the future.

Immediate gratification is also one of the significant factors behind our reluctance to go for insurance on our own, even though we genuinely want to protect ourselves, because insurance means perceived immediate costs and future expected rewards.


4. Lifestyle Inflation
In the words of Joel Barnett, “A man explained inflation to his wife thus: 'When we married, you measured 36-24-36. Now you're 42-42-42. There's more of you, but you are not worth as much'.”

A joke apart, the incremental inflation – the difference between the higher inflation rates we actually face and the normal inflation rates estimated by the government – is nothing, but lifestyle inflation. It refers to lifestyle augmentation expenses as one rises up the career graph. No matter how little or how much we earn, our spending tends to match our income.

As incomes go up, so do our standards of living. It is tempting to scale up our lifestyle with every pay increase or bonus. At times comparatively low income earners have a greater capacity to save than high income earners due to expenditure rising faster than income.

The unrealistic expectations we have for lifestyle are contributing to living beyond our means. Another major factor for succumbing to lifestyle inflation is social pressure to keep up with friends, peers, or neighbors.

To be continued next month.

The Other Side of Section 80C - Conditions & Restrictions

In my previous post “Section 80C Tax Saving Options & Investment Avenues” a brief overview of various expenses and investment instruments eligible for section 80C deductions is given.

However, many specific conditions & restrictions are applicable to those expenditure and investment options mentioned in section 80C. This post specifies those conditions & restrictions in detail:


Restriction & Conditions under section 80C

1. Tuition fees: Tuition fees paid for the full time education of your two children is allowed as deduction under section 80C. However, it is subject to following restrictions:

1. Allowed only for full time education, i.e., part time course and private coaching classes not allowed

2. Allowed only up to two children

3. Development fees, building fund, donations or any payment of similar nature not allowed.

4. Self or Spouse education not allowed.

5. Overseas education not allowed.

However, playschool, pre-nursery and nursery tuition fees are allowed. For a more detailed discussion, you can read http://simpletaxindia.blogspot.com/2008/02/tuition-fees-paid-for-children-us-80c.html.

2. Home loans: The principal component of the housing loan EMI, which is eligible for deduction under section 80C, is subject to following conditions:

1. If the loan is borrowed for the purpose of reconstruction/renewal/repair, then deduction under section 80C is not allowed.

2. The deduction for repayment of principal of a loan is not allowed in case of commercial property.

3. The property should not be sold before a period of 5 years. If you sell the house within a period of five years from the year in which you have started claiming home loan IT benefits, the entire deduction claimed under section 80C – for repayment of principal sum of the home loan – in earlier years will be deemed to be your income in the year in which you sell the property. However, the housing loan interest deduction claimed under section 24(b) won’t be reversed.

4. If the house is in the name of your family member (spouse or your parents) and you make the repayment of loan yourself, the deduction u/s 80C won’t be allowed.

5. Unlike section 24(b), where you are allowed interest deduction irrespective of the source of borrowing (the borrowing may be even from your family and friends), the repayment of principal sum under section 80C is allowed only if the borrowing is from specified institutions mentioned therein.

3. House registration expenses: The following expenses relating to house property are not allowed under section 80C:

1.Stamp duty and registration charges paid for purchase of plot of land is not allowed under section 80C.

2. Property tax or municipal tax deduction is also not available under section 80C. It is available separately under section 23 while calculating net annual value of house property.

3. The admission fees, cost of share or initial deposit which a shareholder of a company or a member of a co-operative society has to pay for becoming a member is also not allowed.

4. Life insurance: There are certain restrictions regarding the premium, lock-in period and the eligible persons:

1. If the amount of premium paid in any financial year exceeds 20% of the sum assured then deduction will be allowed only up to 20% of the sum assured.

2. While ULIPs can’t be sold or terminated before 5 years, other life insurance policies can’t be surrendered before the premium for 2 years have been paid.

3. Life insurance premium paid to insure the life of your parents (Father and Mother) is not eligible for the section 80C deduction.

5. Public provident fund (PPF): While PPF is considered as one of the best option among all the assured return schemes under section 80C, it is also subject to certain limitations:

1. Maximum contribution allowed Rs 70,000 per annum (p.a.) in all the accounts clubbed together. For example suppose you open two PPF accounts: one in your name and other in the name of your minor son. Here contribution to both the accounts will be clubbed for the purpose of limit of Rs 70,000. And if you still make a contribution in excess of Rs 70,000, section 80C deduction will not be allowed, nor will you get any interest on the excess contribution.

2. A joint account is not permissible.

3. To keep the PPF account active, a minimum annual investment of Rs 500 is required in all subsequent years.

4. It is not possible to close & withdraw the entire amount before the maturity period of 15 years except in the case of death. However, partial withdrawals can be made from 7th year onwards.

6. Pension plans of insurance companies: The investment in pension plans of insurance companies is subject to following limitations:

1. If any investments have been made in pension plans of Insurance companies’ u/s 80CCC, then the qualifying amount u/s 80C stands reduced to that extent. In other words, combined overall limit u/s 80C and 80CCC is Rs 1 lakh.

2. On maturity, you can withdraw (or, commute) only one-third (33%) of the corpus which is tax-exempt; balance 2/3rd has to used to purchase an annuity (monthly pension) from any insurance company.

3. Pension is taxable.

7. 5-Yr Bank Fixed Deposits (FDs): While offering you same interest rates which are offered on plain vanilla FDs, tax-saving fixed deposits suffer from poor liquidity:

1. Tax Saving Bank FDs can’t be pledged for loan purpose.

2. Unlike other plain vanilla bank FDs, which you can encash before maturity by paying a penalty – usually one per cent – tax saving FDs doesn’t allow premature encashment.

3. Fixed deposits of non-scheduled banks are not covered.

8. Mutual Fund Pension Plan: Though lock-in period for tax purposes is only 3 years, premature exit before the vesting age of 58 years is subject to high exit loads. For instance, Templeton India Pension Plan (TIPP) charges 3% exit load for early redemptions.

9. Employee's Provident Fund (EPF): Basically, there are two kinds of EPF - first is Statutory Provident Fund (SPF) applicable to government and semi-government (including universities and other specified institutions) employees. And second is Recognised Provident Fund (RPF)under Employee's Provident Funds and Miscellaneous Provisions Act, 1952, applicable for private sector employees. While SPF is fully exempt from tax under section 10(11); RPF is subject to a lock-in period of 5 years. For more details, please read "10 Common Income Tax Misconceptions".

10. General or Common Restrictions: There are certain general limitations also:

1. The total limit under section 80C – combined with ‘pension plans of insurance companies under section 80CCC – is Rs 1 lakh. However, let me clarify that unlike section 88, there are no sub-limits under section 80C. The following sectoral caps which existed under section 88 have been omitted from section 80C:
a. Rs 12,000 per child for tuition fees
b. Rs 20,000 in respect of repayment of housing loan
c. Rs 10,000 in respect of equity linked saving schemes (ELSS)

2. Deductions permissible under section 80C to 80U are not allowed from short term capital gains chargeable under section (u/s) 111A and long term capital gains chargeable under section 112. It is because that these capital gains are already taxed at concessional rates. So, if your total taxable income includes any capital gains taxable under either section 111A or section 112, please exclude them from total income for the purpose of availing deduction u/s 80C.

3. Deductions under section 80C to 80U is also not available in case of winnings from lotteries, card games, races, gambling etc.

So, keep the above limitations in mind while doing your tax-planning to avail tax deduction under section 80C of IT Act.

Section 80C - Tax Savings Options & Investment Avenues

Section 80C of Income Tax Act, 1961, sets out a number of options or tax-saving instruments that are eligible for tax deduction. Broadly, we can divide tax-saving avenues into two categories: first is expenditure related deductions such as tuition fees and home loan principal repayment; and second is investment instruments or options such as EPF (Employee’s provident fund), VPF (Voluntary provident fund), PPF (Public Provident Fund), NSC (National Savings Certificates), ULIPs (Unit-linked insurance plans), ELSS (Equity linked savings scheme), SCSS (Senior Citizens Savings Scheme), 5-Yr POTD (Post office time deposits), 5-Yr tax-saving fixed deposits (FDs) of banks, Mutual funds pension plans , NABARAD (National Bank for Agriculture and Rural Development) Rural Bonds and life insurance premium.

Here’s the brief over view of various tax-saving avenues or options under section (u/s) 80C of the IT Act, 1961:

Expenditure avenues u/s 80C
I’ve already pointed out in my earlier post on section 80C tax-planning and tax saving strategies, “Making the most of Section 80C – 10 Smart Tips”, that before making any investment to get tax break under section 80C, you should first avail the concession / deduction available to you for certain expenditures incurred by you. The various expenses which are eligible for section 80C tax break are:

1. Tuition Fees: Expenses – only tuition fees – incurred on children’s full time education in India are eligible for deduction under section 80C. No other charges or expenses are allowed.

2. Repayment of principal sum of home Loans: The EMI (Equated Monthly Installment) that you pay against your home loan comprises of two components - principal and interest. While principal part is deductible under section 80C, there is a separate deduction for interest portion under section (u/s) 24(b) of Income tax Act. For further details, please read, "Housing Loan Tax Deduction: Comparison between Section 80C and Section 24(b)".

3. Expenses incurred on purchase of house property: Stamp duty, registration fees, and other expenses incurred for the purpose of purchase of house property are also entitled for section 80C deduction.

Investment options / avenues u/s 80C
Various investment options can be broadly divided into three categories: first is equity instruments, second is debt instruments and third one is life insurance and pension plans.

Equity Instruments:

1. Equity linked savings scheme (ELSS): Considered as the best section 80C option, it’s a mutual fund scheme investing entirely in equities and therefore has the potential to deliver the best returns. For more details please read, “ELSS – The Best Section 80C option”.

Debt Instruments:

2. Public Provident Fund (PPF): Among all the assured returns small saving schemes, Public Provident Fund (PPF) is one of the best. Current rate of interest is 8% tax-free and the normal maturity period is 15 years. Minimum amount of contribution is Rs 500 and maximum is Rs 70,000. A point worth noting is that interest rate is assured but not fixed. For details, please read “PPF vs. NSC- Which is Better?”. If you're interested in investing in PPF, first get yourself acquainted with certain practical tips and tricks to be followed while investing in PPF.

3. Employee’s Provident Fund (PF): PF is automatically deducted from your salary. Both you and your employer contribute to it. While employer’s contribution is exempt from tax, your contribution (i.e., employee’s contribution) is counted towards section 80C investments. You also have the option to contribute additional amounts through voluntary contributions (VPF). Current rate of interest is 8.5% per annum (p.a.) and is tax-free.

4. National Savings Certificate (NSC): National Savings Certificate (NSC) is a 6-Yr small savings instrument eligible for section 80C tax benefit. Rate of interest is eight per cent compounded half-yearly, i.e., the effective annual rate of interest is 8.16%. If you invest Rs 1,000, it becomes Rs 1601 after six years. The interest accrued every year is liable to tax (i.e., to be included in your taxable income) but the interest is also deemed to be reinvested and thus eligible for section 80C deduction.

5. Senior Citizen Savings Scheme 2004 (SCSS): A recent addition to section 80C list, Senior Citizen Savings Scheme (SCSS) is the most lucrative scheme among all the small savings schemes but is meant only for senior citizens. Current rate of interest is 9% per annum payable quarterly. Please note that the interest is payable quarterly instead of compounded quarterly. Thus, unclaimed interest on these deposits won’t earn any further interest. Interest income is chargeable to tax.

6.5-Yr post office time deposit (POTD) scheme: POTDs are similar to bank fixed deposits. Although available for varying time duration like one year, two year, three year and five year, only 5-Yr post-office time deposit (POTD) – which currently offers 7.5 per cent rate of interest –qualifies for tax saving under section 80C. Effective rate works out to be 7.71% per annum (p.a.) as the rate of interest is compounded quarterly but paid annually. The Interest is entirely taxable.

7. 5-Yr bank fixed deposits (FDs): Tax-saving fixed deposits (FDs) of scheduled banks with tenure of 5 years are also entitled for section 80C deduction.

At present, rate of interest offered on these FD’s is at par with plain vanilla FDs. For instance, current – as on 2nd February 2009 – applicable rate of interest on ICICI Bank ‘Tax-Saver Fixed Deposit’ is 8.25% per annum (p.a.) for general category and 8.75% for senior citizens which are similar to what the bank is offering on its other fixed deposits of similar maturity. Likewise, SBI (w.e.f. 01.01.2009) is currently offering rate of interest of 8.5% for general public and 9.0% for senior citizens on SBI tax-saving FD’s called “SBI tax saving scheme 2006 (SBITSS)” which are also same as being offered on other FDs with similar tenure.

However, remember that unlike plain vanilla FDs, premature exit is not possible. Besides, interest income is taxable.

8. NABARD rural bonds: There are two types of Bonds issued by NABARD (National Bank for Agriculture and Rural Development): NABARD Rural Bonds and Bhavishya Nirman Bonds (BNB). Out of these two, only NABARD Rural Bonds qualify under section 80C.

At present, ‘NABARD rural bonds’ are not open for subscription. Last year NABARD opened the subscription for these bonds – 5-Yr tenure carrying coupon rate / interest rate of 8.25% – during end of January 2008 but received a lukewarm response.

Life Insurance & Pension Plans:

9. Life Insurance: Any amount paid towards life insurance premium for yourself or your family (spouse and children) is eligible for section 80C tax break.

This is the most popular investment avenue among all the tax-saving instruments but for all the wrong reasons. If you would like to know why, please read “How to do Section 80C tax planning”.

10. Unit linked insurance plans (ULIPs): Although, Ulips gets covered under life insurance, but still require a specific mention due to their immense popularity. Undoubtedly, better than traditional insurance plans; nevertheless, you should avoid them. Why? Read: “10 Top Most Factors about Ulips”.

However, if you still want to invest in them to avail section 80C deduction please read, “5 Secrets about ULIPs” and “Best Ulips based on IRR”.

11. Mutual fund pension plans: Another variable return instrument available under section 80C is pension plans of mutual funds. There are only two such plans available in the market –Templeton India Pension Plan (TIPP) and UTI Retirement Benefit Pension Plan (UTI-RBP). These are open-ended debt-oriented mutual fund schemes with a maximum exposure of 40% to equities. In the long run, you can expect these pension funds to deliver better returns than the assured return schemes like PPF and NSC.

However, invest in them only if can spare funds for the long term because premature exit is very costly. Also, please don’t confuse them with pension plans of insurance companies.

12. Pension plans of insurance companies: Contribution towards pension plans offered by insurance companies qualifies for tax benefit under section 80CCC instead of section 80C. However, the aggregate deduction allowed under section 80C and section 80CCC can’t exceed Rs one lakh.

There are basically two kinds of pension plans offered by the insurance companies: traditional pension plans which invest mostly in fixed income products and unit-linked pension plans (ULPPs) which are more flexible. If you want to invest, make sure that you buy pure pension plan without a life cover. Also note that while pension (or annuity) is taxable, commutation of pension is tax-free. For details, please read, “5 Common Sources of Tax-Confusion”.

In next post, I’ll discuss about various conditions and restrictions imposed under section 80C. Meanwhile, if you’ve any other idea or question about section 80C, please share them in the comments below.