Friday, January 18, 2008

How to save Tax with Home Loan

or, Save taxes with a Housing Loan. Er, this title has been chosen deliberately for SEO. And it is a noble thought at that cos most of you who've meandered here from Google or other search engines wouldn't have been here had it not been for SEO and my submissions of the Aryan Expedition on search engines! He he...

So, I'm writing about this here as a matter of need rather than just for plain tax saving. As one's salary increases over time, there is very little one can do to save taxes; the Rs 1 Lakh limit for Section 80C just does not help. Higher salary means higher tax bracket(soon the highest tax bracket) and therefore more and more taxes. As a matter of fact, my employer deducts tax at source from my present salary today which is as much as about 65 % of my salary when I started working about 4 years ago! So what do you do? Having utilised the Section 80C to the maximum extent possible, the best way out is to go for a Home Loan.

Presented here are some of the best links to scout for information on home loans. The best way is to compare Home Loan offers from various banks and HFCs and go for the best offer:

Here is an illustration on how much tax you can expect to save by taking a home loan. You can find your own tax savings by entering you info here. Very good tool.

For this illustration, we've considered a Floating rate Home Loan of Rs 30 Lacs, for 20 years and considered the taxable income of our friend Ramu to be Rs 5 Lacs. We've taken this loan from IDBI Home Finance which offers probably the cheapest floating rate home loan @ 10.25% p.a. Monthly rest.

Here is what we get:

For the first year, Loan Repayment(before tax benefits) is Rs 3,53,392 which is the summation of Rs 3,05,281 of Principal and Rs 48,110 of interest. The Tax payable(without the Home Loan) is Rs 1,18,830 (We haven't considered the other rebates / deductions like Section 80 C here for the sake of simplicity). Now here is the best part - with the Home Loan, the tax payable comes out to only Rs. 72,930. The Annual Tax saved comes to Rs 55,522 (Rs 45,900 + Rs 9,622). So, Ramu's Annual Repayment(after tax benefits) comes to only Rs 2,97,870. This has also reduced the Post Tax Effective Interest Rate(PTEIR) of the loan to 7.69% p.a. Monthly rest.

The Total Tax saved over the period of this loan, that is 20 years comes out to a neat Rs 11,60,565(A-B):
(A)Total repayment over the period of the loan WITHOUT tax incentives : Rs 70,67,832
(B)Total repayment over the period of the loan WITH tax incentives : Rs 59,07,267

The Annual Tax saved figure will keep on increasing with each passing year except the last 4-5 years when Ramu won't get the full tax benefits. The explanation which is given on the link I provided above is reproduced here:

You will notice a drastic fall in the effective interest rate that you pay after TAX benefits.

The above table examines for you the year from which you are not getting your full tax benefit. Normally, in the last couple of years you may not be able to avail the full tax benefit as the level of interest & principal payments are low. However if you don't have the full tax break even earlier than that you may not be efficiently using the Tax Policy. Go back and try to reduce the tenure of the loan (or take a larger loan) to get higher tax breaks.

You might also want to see how post tax effective interest rate changes as the Tax Policy changes in the future or the tax rate that is applicable to you changes.

So there you have it! Saving income tax by taking a home loan. Works like a charm I'm told, although I have to give it a try soon myself...

Tuesday, January 15, 2008


This is in response to a comment posted by Ankur on my earlier post - Tax Saving for free! . This reply is for the benefit for everyone who would like to know this and therefore I've made a new post out of this instead of a comment.

You cannot compare apples with oranges. As a means of tax saving, ELSS and NSC are comparable but not when it comes to liquidity and returns potential(well, risk is another parameter here). NSCs are the poor and uninformed choice in case one can go in for a slightly higher risk(in the case of ELSS as it is equity oriented).

The lock in period for ELSS is 3 years while it is 6 years in the case of NSCs.

Another fact, ELSS dividends and redemptions after 3 years are completely tax free while the interest income from NSC is taxable. Taking a five year horizon, the post tax return from NSC comes out a POOR 11.25% p.a. only while the average post tax return from ELSS funds over the corresponding 5 year period is upwards of 80% p.a.

I guess you'd already know that equities tend to give the best returns over the long term, so tax saving for the long term will be definitely better in the ELSS way than the NSC way. It also beats inflation over the long term thereby giving the best real returns. Finally the disclaimer, ELSS returns are not guaranteed unlike NSC.

Trust this all will prove the point sufficiently, otherwise I have all the time in the world to validate my views! Thanks for the comment btw, keep 'em coming! As a parting shot, here is an illustration on the kind of brutal out performance of the ELSS over the others(read NSC, PPF etc):

How does an ELSS give you the two-in-one advantage of saving tax and wealth-building? The graph below is an eye opener.

If three separate investments of Rs. 1,000 each were made in June 1999 into NSCs, PPFs and in an ELSS, how would they fare? The Rs. 1,000 invested in an ELSS would be worth approximately Rs. 12,266 today. In sharp contrast, none of the fixed rate savings would be worth more than Rs. 2,077. If you are willing to ride the ups and downs of the market, you may find that an ELSS could be an ideal way to save tax and create wealth for your future.

Sources: ELSS data - ICRA MFIE. PPF, NSC Data - Indian PublicFinance Statistics 05-06, Ministry of Finance (Department of Economic Affairs). To represent ELSS, we have considered the performance of the five largest ELSS funds that published their first NAVs on or before June 30, 1999. Assumes an investment of Rs. 1,000 begun on June 30, 1999. PPF - Assumes Rs. 1,000 invested in the Public Provident Fund. For the purposes of simplicity, rate changes announced any time during a month are assumed to be effective for the entire month for the purposes of calculating accrued interest at the end of the month. Interest for the month is calculated by dividing the effective annual PPF rate by 12. For the purposes of simplicity, interest is assumed to accrue on monthly balance in the PPF account. Portfolio value shown here is notional value based on accrued interest till Jun 30, 2007 only. NSC - Assumes Rs. 1,000 invested in NSC at the prevailing interest rate. Assumes half-year compounding at prevailing interest rate. Past performance may or may not be sustained in future. The minimum amount actually required for these investments may be more or less than Rs. 1,000. This graph is for illustrative purposes only. Ending values are rounded off.

Monday, January 14, 2008

Songs I'm listening to currently

A handy music streaming widget, Radioblogclub gets 5 stars for being a saviour for a lot of people who would like to listen to their favourite songs without having to download tons of mp3s.

The best part? You can customise the Radioblogclub player to create a playlist of your favourite songs and post them on your blog, like I've done here. You can also add mp3 songs from your own library to be streamed on the radioblogclub's servers. I'm in love with this little number, Hey there Delilah by the Plain White Tees. And this song is what prompted me to put all the music I like in one place and share it with the rest of the world at the same time.

Pretty neat, eh?

p.s. It's been bringing quite a lotta traffic lately on this forsaken blog, this tiny music player here! :)

Tax Saving for free!

Yes, it's possible. As elucidated in this Economictimes article, you can save taxes via the Section 80C tax which provides for deduction of upto Rs 1 Lakh. We're talking about ELSS (Equity Linked Savings Scheme), a diversified equity mutual fund with a lock-in period of 3 years from the date of investment.

The strategy is pretty simple. Consider a case wherein Ramu has been investing in ELSS over the last say, 5 years. The ELSS investments made by him in the year 2005 are out of the lock-in period now in 2008. What this means is, he can reinvest the ELSS investment of 2005 in this year and still be eligible for the Section 80C deduction. So essentially, he hasn't dug into his pockets to invest for this year. Ramu can shift his 2005 ELSS money to a liquid fund and in a couple of days shift it back into the ELSS fund(which qualifies as a fresh purchase). The double whammy here is that equity mutual fund investments if done by the individual himself (that is applying for mutual fund purchases in person at the AMC office) attract no entry load. Thats a cool saving of the 2.25% entry load as well!

You can check out the best(preferably 5 or 4 star rated) ELSS schemes on Valueresearch

We call it "Aam ke aam, guthliyo ke daam" in India! So there you have it, tax savings for free. Works like a charm for poor people like me...