What is tax planning and types?
Tax planning is an activity that responsible tax paying individuals, businesses or organisations undertake to maximise the use of available deductions, exclusions, rebates and allowances to reduce tax liability. In other words, it is a legal way to reduce your tax liability by leveraging approved government tax saving investments and related options. Tax planning thus keeps individuals and organisations control their finances more efficiently and achieve their financial goals with greater ease.
Objectives of Tax Planning
Tax planning ensures savings of taxes while conforming with the legal obligations and requirements set by the Income Tax Act, 1961. The following are the key objectives of tax planning in India:
- Reducing Tax Liability: Possibly the most obvious objective of tax planning is to help an individual or business reduce their tax liability by taking advantage of available tax deductions and benefit options.
- Strengthening Investment Portfolio: A key part of tax planning for individuals and corporations is related to investing in various notified instruments and asset classes that offer tax exemptions under the Income Tax Act 1961. Tax planning allows them to find different avenues where they can invest their money and get great returns.
- Facilitate Economic Growth: When white money circulates in the market, it benefits the economy of the country and its citizens. Tax planning ensures that citizens grow economically and white money circulates in the market.
Types of Tax Planning
There are three main types of tax planning:
- Permissive Tax Planning: This is one of the most common types of tax planning since it is made exactly as per the provision of the Income Tax Act.
- Purposive Tax Planning: When a taxpayer wants to plan taxes with a particular financial goal in mind, it is known as purposive tax planning.
- Short-range/Long-range Tax Planning: If a taxpayer plans investments and savings based on the exemptions, benefits, allowances and deductions laid out in the tax laws, with a short-range or long-range goal in mind, it is known as short-range or long-range tax planning. In India tax-saving investments are available with a multi-year lock-in period during which redemption is not allowed. Currently ELSS (equity linked savings schemes) have the shortest lock-in period of 3 years.
Benefits of Tax Planning
Tax planning should not be taken lightly. It can offer plenty of benefits to an income tax assessee including the following:
- Ensure Good Cash Flow: Tax planning helps you find ways to diversify your investments and generating savings in a sustainable manner that ensures good cash flow round the year. This in essence ensures that you invest and also cover other key expenses without breaking the bank.
- Cushion against Uncertainties: No matter how good your life is right now, uncertainties can never be ruled out. By planning your finances, you can create a cushion against uncertainties and live your life stress-free. This is of course true for both tax planning investments as well as non-tax planning investments too.
- Take Advantage of Tax Savings Allowed Under the Income Tax Act: One of the main reasons to recommend tax planning with short/long term goals is that it helps you take advantage of the various deductions, allowances, rebates, etc. offered under the various sections of the Income Tax Act.
Tips assist in saving tax on income
One can hold all the medical receipts of their medical expenses. To use them for saving tax year end. An amount up to Rs 15000 is non-taxable on medical expenses for them and their dependent family members.
House rent allowance
Can claim House Rent Allowance to save tax on one’s house rent. Though, this is relevant only when they are staying in rented accommodation.
Equity mutual funds
Investment in equity mutual funds is a vast approach to make profits 100% non-taxable. Still, it is prudent not to trade one equity shares before a period of 1 year as anything less than 12 months may acquire tax on profits.
It is a great way to save tax on income. Section 80G of the Income Tax Act allows a person to claim deductions up to a particularised limit. For donations made to charitable organizations or NGOs. This choice will save taxes as well as bring some way.
Buying of health policies
Premium paid on health insurance policies is recognised as a deduction from total income. In reference to the to Section 80D of the Income Tax Act. Deduction up to Rs 15,000 is possible for insurance of self, spouse and dependent children. This is 1 of the greatest options and can be an element of tax planning.
Why Every Person Needs Tax Planning ?
Tax Planning is resorted to maximize the cash inflow and minimize the cash outflow. Since Tax is kind of cast, the reduction of cost shall increase the profitability. Every prudence person, to maximize the Return, shall increase the profits by resorting to a tool known as a Tax Planning.
How is Tool of Tax Planning Exercised ?
Tax Planning should be done by keeping in mine following factors :
- The Planning should be done before the accrual of income. Any planning done after the accrual income is known as Application of Income an it may lead to a conclusion of that there is a fraud.
- Tax Planning should be resorted at the source of income.
- The Choice of an organization, i.e. Taxable Entity. Business may be done through a Proprietorship concern or Firm or through a Company.
- The choice of location of business , undertaking, or division also play a very important role.
- Residential Status of a person. Therefore, a person should arranged his stay in India such a way that he is treated as NR in India.
- Choice to Buy or Lease the Assets. Where the assets are bought, depreciation is allowed and when asset is leased, lease rental is allowed as deduction.
- Capital Structure decision also plays a major role. Mixture of debt and equity fund should be balanced, to maximize the return on capital and minimize the tax liability. Interest on debt is allowed as deduction whereas dividend on equity fund is not allowed as deduction