Three budget changes to assess in detail
New Delhi: If you have been following the budget proposals that may affect you, there’s a good chance that you are confused about what you should be doing. Your decisions can have a bearing on your financial plan, so it’s better not to be impulsive.
Here are three budget-related decisions you shouldn’t make in a hurry to ensure you don’t harm your financial situation in the long run.
Tax regime selection
Choosing a lower tax rate may seem like a no-brainer but evaluate if it really works for you. If you select the lower slab, you will have to give up on a lot of deductions that could help reduce your taxable income. The straightforward standard deduction, the popular deductions under Section 80C, exemptions on house rent allowance, leave travel allowance (LTA) and others, and the deduction on interest paid on home loans are some of the benefits you’ll need to forgo.
On the other hand, assuming that the old tax regime works well for you, without taking the trouble to see if the deductions you are claiming really add to your financial well-being, is also harmful. If you have committed yourself to insurance policies that you don’t need, or invest each year just to avail of tax benefits, then it may be time to sit down and evaluate if they add value to your portfolio. Do the math and see what works for you before you decide.
“Youngsters starting their careers and financial journey and the retired investors are likely to benefit from the new tax dispensation. Both these categories of investors may not have the leeway to put away money from their already limited income to cut back on tax and lock it away for five years,” said Renu Maheshwari, CEO and principal adviser, Finscholarz Wealth Managers LLP.
MF dividends taxation
The dividend you earn from your mutual fund investments will now be taxed at your slab rate. Earlier, the dividend was tax-free in your hands but the mutual fund deducted a dividend distribution tax (DDT) at a rate of 11.2% for equity-oriented funds and 29.12% for debt-oriented funds.
With this change, the tax implication for those in the higher tax brackets goes up significantly, especially in equity funds. An investor in the 30% tax bracket will now be paying tax on dividends at 31.2% (including surcharge and cess) as against 11.2% earlier. The higher tax can have a significant impact on your long-term corpus. Look at structuring your investments differently to protect your corpus. Choose the growth option where there is no tax bleed till redemption.
If you need regular payouts, whether to meet expenses or to move gains to other investments from a diversification point of view, use a combination of the growth option with a systematic withdrawal plan instead of the dividend option in a debt fund. Every withdrawal will face capital gains tax but it will have the benefit of indexation if the units are held for more than three years and this will bring down the tax incidence significantly.
If you are invested in debt-oriented funds and are in the lower tax bracket, you will enjoy higher payouts from the dividend option since the dividend will be taxed at a lower rate compared to the earlier 29.12%. “For the retirees, the abolition of the DDT on dividends from mutual funds works well. This was a compulsory deduction that most of them were not even aware of and it affected their returns. Now they will pay tax in line with their income levels. For many retirees, the change will put more money in their hands,” said Maheshwari.
A switch between the dividend and growth options will be treated as redemption and there will be tax implications. Evaluate the pros and cons and then make the move.
Opting out of long-term investments that earlier gave you tax benefits just because you can now avail of lower tax rates without them may not be financially prudent. “Individuals who choose to go with the new tax dispensation should make sure they don’t compromise on their savings,” said Maheshwari. You should use the opportunity to weed out all the unsuitable investments you were making just for the tax benefits, particularly those that were not in sync with your asset allocation.
“People get into long-term commitments like insurance policies for the tax benefits without considering whether their income can bear the strain of servicing them. Very often they get into debt when their incomes fall short,” said Maheshwari, talking about the risks of letting tax benefits rule investment choices. “People should start saving consciously depending on what they need from their money and how they need to use it and take a more educated call rather than being disciplined like little children,” she added. Build the discipline that you had for tax-saving instruments for the new investments.
The impact of the changes proposed in the budget will be different for each of you. There is no one-size-fits-all solution. Understand the choices and then initiate the changes for the best outcome.
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