Tax-efficient investing strategies: How to maximise returns while minimising tax liability?

Most investors approach us with a request that they want to invest because they want to save tax under section 80C. This is especially true during the last quarter of the financial year when they are under pressure to submit tax-saving investment proof to their organisation.

Benefits of ELSS

Equity Linked Savings Schemes (ELSS) is one of the best strategies to minimise your tax outflow. Tax-saving mutual funds are comparatively low in cost, highly regulated, professionally managed, are low on taxation and have the least amount of lock-in.

However, approaching investing with the sole aim of saving taxes is a common mistake most investors make. This is where uninformed investors end up making terrible mistakes of buying insurance products and mistakenly mixing them with investments.

The second thing to keep in mind, which investors often underestimate, is the impact of not taking into account the cost of taxes in your investment portfolio. Frequently trading, and churning of investments can lead to a portfolio accruing tax rather than returns!

Securities transaction tax (STT) along with short-term capital gains of 15% (on returns) can have a massive impact not only on short-term returns but also on your long-term compounded returns. Short-term, frequent trading of stocks or mutual funds is a double whammy that can make a huge dent by eroding your returns and increasing market-related risk.

The smart decision would be to look at your investing goals, cash flows, and risk profile holistically and then incorporate reducing your tax liability within your investment plan. There is no one-size-fits-all when it comes to investing. An investing product that might be great for one person might be disastrous for another.

Investors often focus on the cost of advice while disregarding the impact of risks, costs and taxes in investing, which in turn are significantly higher than a customised goal-based investment plan made by experts that allows you to stay invested over long periods, benefit from compounding and meet your important goals.

A great investment strategy would be to build tax savings as a subset of your important long-term goals. Prioritising tax saving over investing goals is akin to putting the cart before the horse.

For better understanding, let’s take an example:

If an investor were to identify his key financial goals rather than investing ad-hoc only for saving tax then he could invest towards his important retirement goal which is 20 years away and invest ₹12,500 every month in an ELSS fund towards this goal would not only save taxes under this 1,50,000 invested every year (tax savings gains of up to ₹30,000-35,000 every year) but also accumulate an astounding amount of 1.64 crore corpus for their retirement (assumed rate of 14%).

By approaching investing as a well-thought-out process with a customised plan there are further advantages that will help you make some exceptionally wise investing decisions. Additionally, a comprehensive, customised investing plan would help you by:

Automating your investing: By investing through a disciplined, monthly Systematic investment plan (SIP).

Reducing risk: The advantage of rupee cost averaging by investing systematically will enable you to reduce the risk associated with investing in equities.

Lower investment amounts: Starting investing for a long-term well in time reduces the amount you need to invest and allows you to accrue a large corpus and meet your goal. This allows you to meet your future goals without compromising on your current standard of living.

Avoiding sales traps: Panic towards the end of the financial year makes for bad decisions. Like buying insurance as an investment product. Planning in advance and automating will ensure you do not invest in unsuitable products or fall into sales traps.

Goal-based investing: Following a sound investing process will allow you to prioritise your goals, keep you focused and ensure that cash flows are not only managed well but routed to the right investing products.

Harsh Gahlaut, CEO and Co-founder, FinEdge