The budget has brought in some major changes in taxation which would impact individuals. People may make some knee-jerk decisions as a quick reaction to the tax announcements and this article tends to suggest the do’s and don’ts to help people to avoid unwise actions.
Before even getting into any specifics, regardless of changes in taxes, budgeting, savings, and asset allocation principles hold good as always and one should not play around with those disciplines due to the tax changes around specific asset classes.
The short-term capital gains (STCG) tax from equities and equity oriented mutual funds with more than 65% exposure to equities has been increased from 15% to 20% and long-term capital gains tax (LTCG), that is gains generated after 1 year of investment, has increased from 10 to 12.5%.
While this increases the tax amount to be paid compared to earlier, this should in no way discourage any existing or new investor from investing in these products as there is absolutely no change in the fact that equity is the asset class among the regulated ones that can create maximum wealth for individuals.
So, there should be no thought in the direction of whether to invest or whether to reduce exposure to equities and equity mutual funds. Even the equity market which initially reacted with a huge dip on the budget day, quickly recovered and closed almost flat, not giving the news much of an importance.
Investors who invest for short periods of less than a year in equities need to realise that the gap between LTCG and STCG has further widened from the earlier 5% to 7.5% now. This has given one more reason for investors to stay invested long-term to reap the full benefit of the power of compounding.
The budget has increased the exemption limit for LTCG from listed securities to ₹1.25 lakhs from 1 lac. Investors should try and utilise this benefit of exemption every financial year to reduce the taxes.
Investors who used to park short-term monies in arbitrage funds as they were dearer in taxation, henceforth will have to pay 20% instead of 15% earlier as STCG tax. Now investors will have to check the rate of FDs for the period they plan to invest and compare the post-tax gains with arbitrage funds to choose the favourable one as the tax differential has narrowed.
Investors in Futures and Options will have to pay higher STT now. For Futures, this has increased from 0.0125% to 0.02% and for Options, from 0.0625% to 0.1%. F&O traders who hunt for quick money, including many young investors who have little knowledge should look at this as a reason to stay away from this time and money-killing activity.
Real estate has seen a major change in taxation in many decades in this budget. Real estate which absorbs 50% of household savings, due to the big quantum of money it demands, is the major asset holding by value for most Indians. So, the taxes they would pay from the sale of this asset impacts them significantly.
The long-term capital gains generated from the sale of real estate, after 2 years will be taxed at 12.5% instead of 20% earlier. This while appears as an advantage is not so as the indexation benefit which used to be availed earlier cannot be availed anymore for properties bought on or after 2001. So the change in taxation is advantageous for properties bought before 2001 and in the case of properties bought from 2001, only in cases where the annual gain is more than 10% it could be beneficial.
This change in taxation in real estate should prompt people who are over-invested in real estate to take this as a reason to liquidate and divert to financial investments, particularly those who own more than one house. This should even pick your brain on whether you should even invest in a residential property in the first place if the rental yield is less than 2.5%, even if it is for your own consumption.
Financial investments in equities and equity mutual funds generate much better returns than real estate most often and the biggest advantage they have over real estate is their easy liquidity. So, it's time to divert excess investments in real estate to these products and even debt investments if they have not been given adequate allocation.
Indians traditionally have a greater affinity for gold. Any good news in favour of gold pulls people towards gold to buy more. In the budget customs duty on gold and silver has been reduced from 10% to 6% and this has made gold cheaper. This should not warrant splurging money on buying gold to buy cheap. Exposure to gold in a portfolio is advisable to be restricted to 5-10% and it may not be advisable to hold in excess of that.
For those who can hold the investment for 8 years, sovereign gold bonds which offer an annual interest of 2.5% over and above the value appreciation in gold and tax-free capital gains at the end of 8 years is the best way to invest in gold.
The National Pension System (NPS) is one of the best retirement products available today. The budget has made NPS even more attractive for private sector employees. Public sector employees have been getting tax exemption on contributions by the employer of up to 14% of their salary. In the case of private sector employees, this was only 10% which has now been increased to 14%.
NPS which has the potential to deliver 10 to 12% or more returns through the equity fund option (restricted to 75%) can create a huge retirement corpus for investors and the 60% of the maturity is tax-free. Private-sector employees should utilise this increase in limit from 10% to 14% to boost their retirement kitty and tax benefits.
The Union Budget is clearly signalling the moving away to the new tax regime in the future. The old regime, which provides for exemptions has in a way sown the seeds for the habit of investing, which is on the contrary discouraged in the new regime. To take care of their financial health, investors need to inculcate the self-discipline of investing whether or not the old regime continues.
The Budget is not just an event for the financial markets and the country's economy, it's equally a big event for you to relook into your personal finances and realign to improve your financial wellness.
V.Krishna Dassan, Director, Dhanavruksha Financial Services Pvt. Ltd.
