Tax Planning for Seniors

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Budget 2015 did not see any changes in tax exemption limits but it still brought some cheer for senior citizens as some of the deductions have been enhanced. Our financial expert Mr. Shyam Sunder, Managing Director, PeakAlpha Investment Services Ltd.  brings you some guidelines to keep in mind for your tax planning needs.

Looking after our elders has been an important part of our culture and history. We appreciate what our elders have done for us, the sacrifices they have made in order to give us a good life. This spirit of caring for our elders also extends to taxation, where senior citizens have been given additional tax breaks over and above what everyone else enjoys.

Plan your retirement wisely.  Pic: http://pdpics.com/

Plan your retirement wisely.
Pic: http://pdpics.com/

Definition of senior citizen

Let us understand how the taxman defines a senior citizen. The Finance Bill of 2011 made two significant changes to how senior citizens are defined. Anyone over the age of 60 is a senior citizen, compared to 65 years earlier. Further, a new category, Very Senior Citizen, was introduced, identifying anyone over the age of 80 years.

Taxation of senior citizens

Senior citizens are taxed as shown in the tables below.

Income tax slabs 2015-2016 for Senior citizens (Aged 60 years but less than 80 years)

Income tax slab (in Rs.) Tax
0 to 3,00,000 No tax
3,00,001 to 5,00,000 10%
5,00,001 to 10,00,000 20%
Above 10,00,000 30%

Income tax slabs 2015-2016 for very senior citizens (Aged 80 and above)

Income tax slab (in Rs.) Tax
0 to 5,00,000 No tax
5,00,001 to 10,00,000 20%
Above 10,00,000 30%

Tax planning for senior citizens

It is important to note here that the income referred to is taxable income, not gross income. By smart planning, one can reduce the taxable income for a given gross income. This is usually done using the following four principal areas. I will cover each of them in detail.

Exempt incomes

There are certain types of incomes which are completely exempt from taxation. While agricultural income is a well-known example of exempt income, one more asset class whose income stream is also exempt from taxation in most circumstances is equities. Most senior citizens are wary of equity investments, and perhaps rightly so, because of its volatile nature. Anyone with exposure to stocks and shares in the past six or seven years can tell you what a ride it has been.

Nevertheless, there are two aspects to equities that are worth keeping in mind. First, despite short-term volatility, equities have proven to be successful inflation-busters and wealth preservers in the long-term. Therefore, they merit a small place even in the portfolios of senior citizens. Second, cash flows from equity investments enjoy very favorable taxation. All dividends from equity investments, whether directly in stocks, or in equity mutual funds, are completely exempt from taxation. Further, if you make gains from sales of your shares, then if you have held them for less than one year, then they are taxed at 15%. If you hold them for more than a year, they are completely exempt.

A common strategy that we adopt when planning for retirement is to create a portfolio of good quality equity funds, and set up a systematic withdrawal plan for about ten per cent of the value of the funds. This way, the appreciation can be withdrawn without a tax impact and in a very predictable manner. As a simple thumb rule, you must set aside ₹ 1 lakh for every ₹1,000 in monthly income that you need. As long as you have held the fund for at least a year, there is no tax impact.

Other incomes that are exempt from taxation include maturity proceeds of insurance policies, gifts from your close family, and withdrawals from the public provident fund.

Deductible investments

There are several investments that you can make whose value can be completely deducted from your gross income. These usually form part of what is popularly known as Section 80 C. In last year’s budget the limit for investments in this section was hiked from ₹ 1 lakh to ₹ 1.5 lakhs. While there are a number of options that are available here, only some of them would make sense for senior citizens. Insurance premiums are part of Section 80 C, but aren’t usually recommended for senior citizens who are retired.

We generally recommend that you take advantage of either long term fixed deposits, five years or greater, or equity linked savings schemes of mutual funds, which are locked in for three years. These two options are quite different, and therefore, the right option for you depends upon your current asset mix and your risk tolerance. For someone comfortable with some volatility, and with little exposure to equities, ELSS funds are a good option. But if equities make you quite nervous, or you already have significant exposure to equities, you can consider investing in five year fixed deposits.

Deductible expenses

God helps those who help themselves – something we are all familiar with. Did you know that the government also helps those who help themselves? Certain expenses that you incur can also be deducted from your gross incomes. I referred to life insurance premiums earlier. You are also entitled to deduct health insurance premiums. The limit for this has just been hiked in the recent budget from ₹ 20,000 to ₹ 30,000. In any case, having adequate health insurance is desirable in your retirement years, so you don’t worry about major medical emergencies eating into your assets. With the tax bonus, the case for having private medical insurance becomes that much stronger.

Another important expense that also delivers significant tax benefit is the payment towards your housing loan. In last year’s budget, the finance minister hiked the deduction of interest payments from ₹ 1.5 lakhs to ₹ 2 lakhs. Principal repayments are already part of Section 80C. If both spouses are servicing a loan jointly, a family can lower taxable income by ₹ 7 lakhs, thereby making this expense the biggest tax break the government currently offers. Having said that, we do not advocate senior citizens to carry loans well into their retirement. We would prefer that you be debt free upon retirement.

Tax-efficient investments

Some investments, while not completely tax free, offer superior tax efficiencies compared to other options. Most people who seek a safe investment head towards bank fixed deposits. However, as their awareness increases, many people are moving out of fixed deposits and into good quality debt funds. The principal advantage of debt funds lie in their tax treatment. A three year fixed deposit will be taxed at your marginal tax rate which can be as high as 30%. On the other hand, a debt fund that is redeemed after three years is taxed at 20% with the benefit of indexation. In times of high inflation, indexation can be very important.

Another advantage of debt funds compared to fixed deposits is that with a fixed deposit, one has to pay tax on interest earned whether one needs the interest or not. This is true even in the case of cumulative options, where interest is not paid out. With debt funds, you pay tax only upon redemption, and only on gains on what you have sold. Therefore, in the long run, your savings on taxes and therefore the growth in your wealth can be significant.

As you approach tax planning, do ensure you incorporate all the four elements outlined above.


shyamAbout the author

Shyam Sunder is Managing Director PeakAlpha, a financial advisory firm based in Bangalore. He has nearly two decades of experience in the financial services industry and has been advising financial services companies on a broad range of issues ranging from corporate strategy, operations, technology and change management. He has an MBA in Finance from The Wharton School, University of Pennsylvania.

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