What Is Tax Planning

What Is Tax Planning

You must pay taxes on your income according to the applicable income tax slab rates. The larger your income, the higher your tax liability.

Written by : Rishabh Jain

Reviewed by : Lalit Lata

Lalit Lata

2020-10-15

1811 Views

8 minutes read

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Effective tax planning ensures financial stability, increased savings, and the ability to achieve long-term financial goals. It allows individuals to reduce taxable income, decrease legal problems, increase savings, achieve financial stability, enhance productivity, and manage risks. It is the strategic arrangement of one's financial affairs to minimise tax liability while complying with tax laws. By understanding the provisions of the tax laws, taxpayers can make informed decisions regarding tax payments and take advantage of available legal provisions and exemptions.

Table of Content

What is Tax Planning?

Tax planning refers to financial planning for tax efficiency. It aims to reduce one’s tax liabilities and optimally utilise tax exemptions, tax rebates, and benefits as much as possible. Tax planning includes making financial and business decisions to minimise the incidence of tax. This helps you legitimately avail the maximum benefit by using all beneficial provisions under tax laws. It enables one to think of their finances and taxes at the beginning of the financial year instead of leaving it to the eleventh hour.

Why should you do Tax Planning?

There are some fundamental objectives of tax planning. Tax planning diminishes tax liability by saving the assessee the maximum amount of tax by arranging their financial operations according to tax decisions. It also conforms to the provisions under taxation laws, thereby minimising any litigation. One of the biggest benefits of tax planning is that the returns can be directed to investments. It is the most productive way to make smart investments while fully utilising the resources available due to tax benefits. Investing tax money generates white money to flow through the economy, aiding in the country's economic development. Tax planning, hence, contributes to the economic stability of the individual as well as the country.

Tax Planning in India

There are a lot of tax-saving options available to taxpayers in India. These options provide a variety of exclusions and deductions that help to reduce the overall tax burden. Deductions are provided from Sections 80C to 80U, and eligible taxpayers can claim them. These deductions are applied to the total amount of tax owed. It is totally legal and, in fact, a wise decision when tax planning is done within the boundaries set by the respective authorities. However, employing unscrupulous methods to avoid paying taxes is prohibited, and you could face penalties. Tax avoidance, evasion, and preparation are all ways to save money on taxes.

What are the Types of Tax Planning?

Now that you know as to what tax planning is, let us look at three types of tax planning.

  1. Short and Long-range Tax Planning: Tax planning done every year for specific objectives is called short-range tax planning. On the contrary, long-range tax planning refers to practices undertaken by the assessee, which are not paid off immediately. Simply put, short-range planning usually occurs towards the end of a fiscal year while long-range planning occurs in the beginning.

  2. Permissive Tax Planning: Tax planning is deemed permissive when carried out under the provision of a country’s taxation laws.

  3. Purposive Tax Planning: It is a tax planning method for a particular objective. It may include diversification of business and income assets based on residential status and replacing assets if necessary.

  4. Objectives of Tax Planning: Tax planning is a major part of your overall financial planning. A reduced tax liability means fewer burdens on you, which will lead you to plan your financial goal as per your dreams and needs. Here are a few objectives of tax planning:

    • Reduced tax liability
    • Productive investment
    • Growth of economy
    • Litigation minimisation
    • Economic stability

Did you know?

Anyone earning more than ₹5 lakh annually must file taxes. This procedure remains incomplete until the Central Processing Centre in Bangalore receives a copy

Source: Business Today

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How to Get Started with Tax Planning?

Anyone can start planning their taxes in a few simple steps:

  1. Assess Your Income: Take your total income into account. This is the starting point of the process, and it requires you to accurately assess your annual and monthly income.

  2. Analyse Your Tax Liability: Evaluate the taxable aspects of your income. Housing and rent allowances included in the salary on top of base pay are not taxable. However, profits made from investments could add to taxable income. Therefore, understanding one’s taxable income is a requisite to be able to plan taxes.

  3. Lookout for Ways to Save Tax: Make use of deductions to reduce the total taxable income. This can be done by structuring salaries and properly planning investments. For example, interest from a fixed deposit is taxed at the same rate as income tax, while a debt fund held over the years is taxed at 20%. So if you fall in the 30% tax bracket against the taxable income of 10 lakhs and above, debt funds are a more tax-friendly option. 

  4. Devise a Tax-Saving Strategy: Invest in tax-saving instruments. A wide range of deductions is available to eligible taxpayers in Sections 80C through 80U of the Income Tax Act, 1961. Other options, such as deductions and tax credits, are listed under the Income Tax Act of 1961. Investment options include Provident Public Fund (PPF), Equity Linked Saving Schemes (ELSS) in mutual funds, National Saving Certificates (NSC) or 5-year bank deposits. Life insurance, health insurance premiums, and home loan payments can give you tax savings.

A simple example is if an individual’s income is 6.5 lakhs per annum and they invest 1.5 lakhs in the notified schemes, they can bring down their taxable income to 5 lakhs- consequently reducing tax liability to NIL as a person having taxable income up to ₹ 5 L available for rebate of ₹ 12,500 u/s 87A. The savings can then be put to productive use. With a simple assessment of your income and some basic tax rules, planning your taxes can ensure your overall financial security.

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Wrapping Up

In conclusion, tax planning is a crucial aspect of financial management that insurance sector customers should prioritise. By understanding the concept of tax planning and its various types, individuals can effectively minimise their tax liabilities and maximise their financial gains. Whether it's income tax planning, wealth tax planning, or estate tax planning, each type offers unique benefits that can significantly impact one's financial well-being. By incorporating tax planning into their financial strategy, insurance sector customers can ensure a more secure and prosperous financial future.

Glossary

  • Tax Diversification: Tax diversification are investment strategies that take into account the tax implications of particular accounts and assets.
  • Litigation minimisation: Minimising litigation in tax planning involves strategies and practices that help individuals and businesses avoid disputes with tax authorities, reducing the likelihood of ending up in court over tax matters. 
  • Tax Loss Harvesting: Tax loss harvesting is a strategy that reduces tax burden by selling investments whose value has decreased or is in decline.
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FAQs on Tax Planning

Tax planning meaning can be comprehended better with these tax planning examples:

  • Tax Diversification
  • Tax Gain or Tax Loss Harvesting
  • Social Security Income Can Be Taxable – Up to 85%!
  • Charitable Giving as a Tax Savings Opportunity
  • Multi-Year Tax Planning

The mony paid as tax is the primary source of revenue for the government. This money is used to pay for essential costs associated with health care, infrastructure development and upkeep, government employee salaries and pensions, law enforcement, and judiciary services, among other things.

Tax planning guarantees tax savings and complies with all legal standards set forth in the Income Tax Act of 1961. The main idea behind tax planning is saving money and reducing one's tax burden.

High earners can invest up to ₹1.5 lakh in financial instruments that offer deductions under Section 80C of the Income Tax Act under the previous tax regime, such as provident funds, National Savings Certificates, life insurance, Equity Linked Savings Schemes (ELSS) mutual funds, and others, to lower their tax liability.

Every citizen has a duty and responsibility to engage in wise tax planning.. All Indian citizens, whether they are residents or not, are required by the Income Tax Act to file income tax returns. Currently, income above ₹3 lakh in a financial year is subject to taxation. 

Since both tax regimes have various benefits and considerations, it is crucial to select the appropriate income tax regime and budget in order to lower one's tax liability. They will automatically be enrolled into the new tax regime if they fail to notify their employers of their preferred tax regime. 

While it's beneficial to have a basic understanding of the Income Tax Act, you don't need to be an expert to engage in effective tax planning. Many tax professionals are well-versed in the Act and can guide you through the complexities. However, being aware of major provisions and changes can help you make informed decisions and optimise your tax savings. Consulting a tax advisor or using reliable tax software can also ensure you stay compliant and take advantage of available deductions and credits.

The government receives its revenue from the taxes that residents pay. This money is used to pay for essential costs associated with health care, infrastructure development and upkeep, government employee salaries and pensions, law enforcement, and judiciary services, among other things.