Many of us consider tax planning as some last-minute year-end activity and apply little thought to it. It would do your finances a world of good if you changed that mindset in 2023. Tax planning must be done early, should be a part of your larger financial planning process and include the asset allocation aspect. By planning well, you can reduce outflows and increase your take-home salary by using deductions to fall into a lower tax bracket, for example. Here is how you must plan for your taxes during the new year.

Start early to optimise outflows

For those of you above the minimum threshold of tax, your company will deduct tax at source before handing out your salary. This amount deducted depends on your slab and the deductions under various tax sections that you avail. While companies ask for documentation on investments made only in the second half of the year, you must plan for it early and decide in which avenues you are going to invest.

If you do not optimise on taxes, you could end up with much higher proportions of your salary as outflows. This would seriously hurt your ability to invest, pay insurance premiums and meet all expenses, as well as occasional indulgences.

Also, remember, you need the money to invest in tax-saving avenues and would need to plan for those cashflows as well.

In every respect, starting early in the financial year helps. Tax-planning should not be a last-minute chaotic exercise.

What are the tax-saving avenues?

Broadly, we have three-four categories of tax deductions available. The list is neither exhaustive, nor are the complete nuances and details of the products discussed here. The point is to have a broad idea on the kind of instruments we are dealing with. For example, PPF corpus allows tax deduction and the final amount is also tax-free. Interest from bank FDs is taxable.

Fixed income: Public provident fund (PPF), National Savings Certificate (NSC), five-year bank fixed deposits, Senior Citizens Savings Scheme (SCSS) and Sukanya Samriddhi Yojana (SSY) are a few such schemes. Employees Provident Fund (EPF), though not strictly fixed income, can be considered so, since the returns are assured.

These fall under section 80C of the Income Tax Act, where the maximum deductible amount is ₹1.5 lakh — PPF and five-year FDs allow you to invest only that much in a year, while others have varying limits. The tenors vary from five years to 21 years for the above schemes. Withdrawal is restricted and allowed only with several conditions. Interest rates range from 7 per cent to 8 per cent. EPF interest rate is 8.1 per cent currently. For most of these schemes, interest rates are reset periodically.

Market-linked: These are usually equity linked savings schemes (ELSS) of mutual funds, the National Pension System (NPS) and unit linked insurance plans (ULIPs). ELSS has a lock-in period of three years. The NPS runs by annual contributions till you turn 60. ULIPs continue till the period for which the policies are purchased.

All three investments fall under section 80C and within the overall ₹1.5-lakh limit. NPS investments give you an additional ₹50,000 deduction under section 80 CCD over and above section 80C.

Insurance: Broadly, health, term, endowment and money back policies fall in this category. Health insurance falls under section 80D. Deductions up to ₹25000 are allowed for premiums paid for self and family. If senior citizen parents (even one of them is 60) are included, the deduction limit goes up to ₹50,000. The other insurance policies — term, endowment and money back — are part of 80C limit.

House loan related: The principal portion of your home loan can be claimed for deduction under section 80C. The interest part deduction of up to ₹2 lakh per year is allowed additionally under a separate section 24. If you take a joint loan with your spouse, both can claim interest deduction up to ₹2 lakh separately.

There is also a section 80TTA that allows deductions on savings bank interest of up to ₹10,000

Make paying taxes a part of financial planning

Investing in tax-saving instruments isn’t just about reducing your outflows. It is about making it a part of your overall financial planning. As noted earlier, there are debt and equity instruments of varying lock-ins, interest rates and tenors.

You should therefore choose to link some of these investments to specific goals and make them a part of your overall asset allocation. The PPF of 15 years can be used for your child’s higher education, for example. The SSY is probably useful for your daughter’s marriage or higher education. ELSS investments can be rolled over for many more years to better capital appreciation if the performance is consistently healthy. NPS can be an additional avenue for your retirement goal, in addition to equity mutual funds and other avenues.

One point to note is that 80C has too many avenues and too little as deduction. So, you need to pick and choose wisely. You can invest in some of them specifically for certain goals even if you have already crossed the ₹1.5 lakh threshold.

Therefore, tax planning must not be seen in isolation and must be integrated with the portfolio building process.