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This is tax saving season. Before March ends you make investments or pay more taxes. There is much rush to invest in NSCs, PPF accounts, life insurance premia etc. 20% of your investment is the amount of tax saving that you are generally entitled to under section 88.
Let us say you wish to make investments in NSCs and get tax rebate. Yet, you find that investment in NSCs give you a much lower return than you would have otherwise got. For instance, you realise that investment of funds in your own business will fetch you over 30%, or private loans to your friends will get you 24% or even investments in some debt instruments can fetch you 16%. In the face of this, you find investment in 12% NSCs is not worth it specially when you lock in the funds for six long years - merely to get a tax rebate of 20%.
Besides, there remains one big problem for most people: there isn't just enough money available to invest in tax saving schemes. This is specially so in recessionary times like now when there is no money in the market. So, what do you do? Keep the money in business and pay the taxes?
Or, is there a way to not invest the money and yet get tax rebate? Have the cake and eat it, too?
Well, surprisingly, there is. Almost. You can avoid keeping (most of the ) money in tax saving instruments and yet take tax rebate. Don't believe me? Read on.
I discovered this sometime back when I met some officers of Bank of Madura. This bank has designed a 'product' - a loan - to finance NSC investments. Well, it is not really a scheme to finance an NSC, but a loan on NSCs. Most banks offer such loans, but Bank of Madura has packaged this product quite well. And it makes quite an attractive thing.
Let us understand the broad contours of the law giving you tax rebate first. When do you get tax rebate? To get tax rebate you should:
- Invest in eligible tax saving instruments before the year is out;
- Invest an amount upto Rs.60,000 in aggregate (ie, all instruments combined);
- Invest out of your taxable income;
If you do this, you are entitled to tax rebate of 20% of the total amount invested. That is, 20% of the saving will be reduced from the tax payable by you.
There are various instruments, saving schemes etc eligible under section 88. These include, as you all know, National Savings Scheme (NSCs), Public Provident Fund (PPF), Recognised Provident Fund, ULIP, LIC insurance premia, etc. The list is quite long and many interesting options are available.
The last condition mentioned by me is interesting and important. You get tax benefit only if your investment is made out of taxable income. Otherwise, you do not get tax benefit. That is, if you invest out of non-taxable funds, you do not get tax rebate. Examples: investments out of gifts received, agricultural and other exempt incomes, loans borrowed etc.
There has been some debate as to whether you are eligible to tax rebate if you invest out of funds accumulated out of taxable incomes of past years. The Tribunal has held that you would indeed be eligible to such benefit. However, it is most advisable that you make investments out of the current year's income and ensure that loans borrowed and exempt receipts are not directly linked to such investments.
The best way to eat the cake and have it too, is with investments in stand alone instruments like NSCs. This is because one year's investment in NSCs, has nothing to do with another year's investment. Unlike LIC premia which are a series of annual payments, or PPF accounts in which funds get accumulated and locked up for fifteen years.
You should, therefore, first invest in NSCs out of your taxable income. And become eligible to take tax rebate. That is eating the cake.
Now, go to the bank. Ask for a loan on your NSCs. Bank of Madura has, as I said earlier, made a neat package to give NSC-secured loans.
You are eligible to over 75% of the accrued value of the NSC. Accrued value is face value plus accumulated interest on NSC. Thus, for newly acquired NSCs, you can get about 75% of the investment as loan.
The bank would take the NSC as security and give you a loan without any another security.
The bank has two repayment options - the loan is obviously to be repaid. Under the first option, you repay in monthly instalments. The second and interesting option allows you a 'bullet repayment'. In this, the loan matures for repayment at exactly the same time as your NSC matures for encashment. Thus, effectively your NSC proceeds will repay the loan without any outflow from your side! That is what I said was neat packaging.
Take the loan and walk out. Without worrying about repayment.
You have had your cake and can now keep it, too.
Why should the bank give loans? To earn interest, of course.
The bank charges interest on NSC loans depending on its Prime Lending Rate. Currently, it is about 15.5%.
That works out to about 3.5% more than interest on NSCs. And, you have to pay this interest additionally even if your NSC proceeds will adjust against the loan amount. Of course, a good part of the interest can get adjusted against your margin money.
Should you pay the additional interest of 3.5% merely to take tax rebate? Will not the interest be much more than the tax saving? Isn't it too heavy a price to pay? Not really.
The interest you earn on your NSCs is tax-free. This is so under section 80L together with other incomes like interest on bank deposits etc. Also, remember that dividends from companies are now totally exempt and not covered by section 80L.
The chances are, therefore, that you may not pay tax on interest you earn on your NSCs (on which you have taken the loan).
The loan that you borrow from the bank will be invested by you in your business or in other income earning avenues. That is, the loan will be used to earn other income. That being so, the entire interest you pay will be deductible while computing your business or other income. That is, the entire 15.5% (and not merely 3.5%) interest you pay to the bank will be allowed as a deduction in your hands.
If you are in the 20% tax slab, your tax saving will be a little over 3% from out of the interest paid (ie, 20% of 15.5%).
If you are in the 30% tax slab, your tax saving will be a little over 5% (ie, 30% of 15.5%).
You, therefore, recover the entire interest paid by way of tax savings and no part of the interest is paid out of your own pocket.
I have always believed that if you are interested and pay enough attention, you can always find ways of saving tax. This is an example of how it can be done even in a simple matter. Of course, like all good plans, its execution is equally important for it to succeed. Otherwise, you will end up in litigation.
So, go ahead, have your cake and eat it, too! Take the tax rebate without making investment!
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