As the deadline for filing income tax returns (ITR) for financial year 2019-20 (assessment year 2020-21) is December 31, we have to look at debt and equity investments to calculate the tax. As investments to save tax will have to be done every year, we need to spread out the long-term investments for compounding benefits. Long-term investing can help to accumulate a sizable corpus and help an investor to understand the market cycles.

As taxes reduce the overall returns, investors must diversify their portfolio in equity, debt and real estate and look at the tax implications before investing.

Tax on debt investments

Fixed deposits: Investors prefer fixed deposits because of assured returns, high liquidity and ease of investment. While deposits of 5-year and above either in a bank or in post office get tax deduction under Section 80C, the interest earned across all maturities are taxed at one’s marginal tax rate. However, senior citizens get an exemption of up to Rs 50,000 on interest earned from deposits.

Debt-oriented mutual funds: Individuals invest in debt-oriented mutual funds and fund houses invest the money in fixed income securities issued such as government securities, treasury bills, money market instruments and corporate bonds. However, these investments have interest and credit risks. The short-term capital gains (STCG) for investment period below three years are taxed at the individual’s slab rate. Long-term capital gains (LTCG) are taxed at 20% plus surcharge and cess with indexation.

Public Provident Fund: It is the most popular tax-saving instrument and the interest rate is linked to bond yields. Currently, PPF gives a return of 7.1% per annum compounded yearly. The rates may change every quarter depending on the bond yield. Investors get tax deduction under Section 80C on the investment paid, interest paid is tax free and the maturity proceeds are tax free, too.

National Savings Certificates: The five-year National Savings Certificate is a popular investment option for risk-averse investors, which is currently offering an interest rate of 6.8% compounded annually but payable at maturity. The deposits qualify for tax rebate under Section 80. And as the interest earned on the NSC every year is not paid out and is re-invested, the interest amount is also eligible for tax benefit under Section 80C. As the final year’s interest (at maturity) cannot be reinvested, an investor will have to pay tax at his marginal rate on that one year’s interest earned. Unlike banks, post offices do not deduct tax at source and the interest income will have to be shown in the income tax returns and tax paid on it.

Tax on equity investments

Equity-linked savings scheme (ELSS): It is a good option to not only save on tax but also earn higher long-term returns. There is lock-in of three years and almost the full amount is invested in shares of various companies. It has the lowest lock-in period as compared to other tax-saving instruments such as PPF, NSC and 5-year bank fixed deposits. There is no cap or limit on how much an individual can invest in an ELSS. An investor gets tax deduction of up to Rs 1.5 lakh for investing in ELSS under Section 80C. If a taxpayer in the highest 30% bracket invests up toRs 1.5 lakh in ELSS in a year, he can save Rs 46,350 in taxes. Investors will have to pay LTCG tax after one year at 10% plus surcharge and cess. The tax will be applicable on redemption of gains over Rs 1 lakh in a year.

Unit-linked insurance plan: These are market-linked investment products with a thin crust of life insurance and the lock-in period is five years. Policyholders have the option of selecting large-, mid- or small-cap or even debt funds to invest depending on their risk appetite. The amount invested in Ulips is eligible for tax deduction under Section 80C up to a maximum of Rs 1.5 lakh a year but with the condition that premium payable should not exceed 10% of the capital sum assured. As maturity proceeds are exempt for life insurance policies, Ulips are exempt from tax at the time of maturity and is an exempt-exempt-exempt product.

Equity mutual funds: Unlike ELSS, equity-related mutual funds do not get any tax deduction under Section 80C. LTCG of over Rs 1 lakh and holding period of over one year is taxed at 10% plus surcharge and cess. STCG are taxed at 15% plus surcharge and cess. Dividends are taxed at slab rates.

Tax on hybrid instruments

National Pension Scheme: It is an ideal investment tool for retirement planning. While it is market-linked, it is less volatile than mutual funds in the long run because of asset mix of equity, government debt and corporate debt. Investors get tax deduction of up to Rs 50,000 in a year under Section 80CCD, which is over and above the benefit available on Rs 1.5 lakh under Section 80C. On maturity, 40% of the corpus is invested in annuity and the rest is paid to the investor tax free.