The bare minimum you need to know to find your way around taxes
Doing your taxes is not very interesting, but it still is necessary. Mainly for two reasons.
One, it gives you an opportunity to help your country by aiding in its development.
Two, if you don’t pay taxes, you’ll be labelled a tax evader and the government will get on your tail.
Of the two paths mentioned above, if you’re neither interested in giving up your money in the name of development and nor are you willing to be chased by the law, then, what do you do?
Well, you’re in luck, for there’s a path in the middle. A path that’ll allow you to reduce the amount that you pay in the way of taxes without resorting to tax evasion.
Now you’re interested, aren’t you?
Picking either of the extremes is easy, but its the middle path, one that promises the best of both worlds, which requires a little more effort.
This article will keep it light and talk about everything you need to know, before getting started. And the the ones further down the line will be “How tos” and deep dives, covering each aspect in greater detail.
For this pilot on taxes, we’ll jump into your shoes and go through a fictional evening in your life.
A day in the life
It’s a Friday, the 26th of February, the day is coming to a close and so is winter. You’ve been anxious the whole day, waiting. Not waiting for the weekend, but waiting for your phone to buzz. Every little bell and chime is transforming you into a ninja, one who’s mastered no other skill than just pulling out your phone with the utmost precision and efficiency, and then wasting no time in reading the screen as soon as it lights up. This ninja had been summoned over a hundred thousand times that day, but, only to be disappointed, as the phone is buzzing for everything but the one notification that you’ve been longing for. All this anxiety and waiting comes at a cost, your focus and productivity have taken massive hits and you’re glad that your boss isn’t around.
As the hours go by, the beads of sweat start to accumulate on your forehead, no telling if its the half baked summer or the anxiety, but one thing’s for sure, something’s bothering you.
The hours slog on, peppered with multiple cases of phantom vibrations and notifications. But then, your phone goes off again, and you’re deliberating checking it or not, because you’ve been burnt way too many times before. But you still do, and you’re glad that you did. Because, it is finally the notification that you’ve been waiting for, an SMS from you bank saying, “Rs 56,000 has been credited to your account.” You’re ecstatic and might’ve even let out a little shriek, as this was your first ever pay check.
Quite a big deal, this.
Granted, that it would’ve been way more dramatic and eventful had you been waiting for you boss to hand you an envelope with a cheque in it, but it’s 2021 and things aren’t done that way anymore.
After sharing this news with your friends and family, you are spent. All the anxiety and waiting has taken a toll on you, so you settle down for a few minutes. In the meantime, you decide to read that message again. And while doing so, you suddenly sit upright, something doesn’t add up. From you calculations you were supposed to receive Rs 60,000, but you’ve only received 56. Where did the remaining dough go?
Your mind goes into overdrive and starts to overthink.
“Have you been scammed?” Or, “Has your salary been reduced?”
You want answers, and you want them now.
The best option you have available, is to find your friend and offload your questions in the hopes of finding some answers. The next few minutes go by in a blur, with you trying to find the messiah.
After a while, which, to you seemed like an eternity, you find your otherwise normal friend, who seemed to have a halo around his head that evening, and sit down to find out if all the colourful scenarios you’d formed in your head stand a chance.
What was supposed to be a 5 min long conversation, goes on for the better part of an hour, because your friend understands that you are new to this world of being financially independent and therefore he takes the time to give you the initial push that you need into the world of financial literacy. A messiah indeed!
Obviously, you’re wondering about what all your fictitious friend had to say, so let’s jump back into reality and read about all those topics that were discussed.
TDS
TDS stands for tax deducted at source. What this means is that your employer calculates how much tax you’d be required to pay on your salary at the beginning of the financial year, and then deducts this amount monthly.
This is one of the reasons why your monthly salary is lesser than what your calculations may have shown.
Obviously, there are other components because of which money is deducted from your pay check, but here we’re ignoring those for convenience.
Hacking TDS
Nobody wants to pay a lot of tax, and it would be safe to assume that even you don’t. One way you can reduce your tax, is by claiming allowances from your employer. Your salary is divided into a few components, the biggest being the base salary. To this base salary, allowances are appended. And what these allow you to do, is reduce your taxable salary, because allowances are not taxed.
In the example above, your total salary is around 7.2 LPA (Lakhs per annum). And this amounts to around Rs60,000 a month. So, if you have claimed no allowances, then, your taxable salary would be the whole of 7.2 lakhs and it would be taxed according to the determined tax slabs.
But if you structured your salary to consist of multiple allowances, then, your taxable income would be lower than 7.2lakhs, as again, allowances are not taxed.
There are various kinds of allowances, like: fuel, telephone, house rent, etc. Every organisation offers a different platter, and it’s up to you to mix and match.
But, one downside is that, to claim these allowances you’ll have to submit bills to prove that the transactions did take place and that you aren’t just scamming the government. Only then will you be entitled to a concession on your tax.
Tip: Don’t choose allowances for which you can’t submit proofs for.
What happens when you fail to submit proofs of transactions to claim the allowance?
Nothing really. All the money for which you didn’t claim allowances for would be taxed at the same rate, which would have been applied had you not opted for the allowances in the first place.
This conveniently brings us to the next topic, Financial year.
Financial year
A financial year differs from a regular year.
In what way one might think? Does it have 13 months instead of 12?
No.
Unlike the regular year, which goes from Jan to December, a financial/ fiscal year goes from April to March. A fiscal year that starts in April 2020 and goes on till March 31st 2021, is referred to as FY 2020–2021.
It is at the end of the financial year when you have to submit your income tax returns. And hence March 31st is a rather famous date, because there’s always a huge fuss about it to file your returns within the deadline, something most people are inherently bad at.
Assessment year
At the end of every financial year begins the assessment year for that corresponding financial year.
But first, what’s an assessment year?
Once you submit your income tax returns at the end of the fiscal year, they would be assessed and evaluated in the year that follows the fiscal year.
So, if they financial year went from April 2020 to March 2021, the corresponding assessment year will be from April 2021 to March 2022. Hence, the assessment year will be referred to as AY 2021–2022.
FY 2020–2021 and AY 2021–2022 refer to the same period.
Income Tax Returns
We’d left this topic of income tax returns unattended earlier, because it was necessary to understand the concept of financial and assessment year before this.
Now, we can proceed.
At the start of every fiscal year, your organisation calculates how much tax you’ll be required to pay for your total salary determined for that period. And based on this it calculates the TDS for each month and accordingly pays it to the government as well — and by now you are already aware that you can reduce this TDS by picking appropriate allowances, and your organisation gives you an opportunity to do this before the start of the fiscal year.
But everything isn’t so straightforward. Apart from the allowances, the government also allows you to save on taxes by investing a certain amount of money in select vehicles of investment and then deduct this amount from your net taxable income.
Once you make this investment in a Financial year, you have to show this in your income tax returns for that year. Then, the government will evaluate — you too can — and check if you’ve paid a greater amount of taxes in the way of TDS, because, now that you’ve reduced your taxable income, your net payable tax would be lower. If that is the case, then, the government will return the difference amount back to you.
Tax saving investments
In the previous section some obscure “tax saving investment vehicles” were mentioned, time to clear the air around them.
Section 80C of our income tax act allows people to invest a maximum of 1.5lakhs every financial year in one of the government approved investment schemes, and if you do so, your taxable income is reduced by a similar amount. You’ll often see people referring to this as 80C — a quick google search would prove it.
What kinds of investments come under this?
These are investments that are approved by the government, so they are relatively risk averse and also manage to give respectable returns. The only downside to this is that you’ll be required to stay invested for a few years, and in most cases it’s at least three.
Some of the options for investment under this section are-
- Equity Linked Saving Schemes (ELSS mutual funds)
- Tax saving FDs
- PPF
- And many more
You’re part of an exclusive club now
Not many people have a clear idea about all the things that you just learnt about and that too at your age, assuming that you’re relatively young.
Now, empowered with this knowledge, you’ll find your self cruising more effortlessly through the financial part of adulting than your peers.
Which brings us to the most important responsibility that all members of this club have, that is to educate people around you on financial literacy and give them the same gift of empowerment that you have received.
Why does Let’s Talk Money exist?
To empower you.
Because, we understand the impact that the knowledge of a new tool or skill can have on somebody’s life.
And, financial literacy is one of those tools. It holds the potential, if harnessed, to change the entire course of a person’s life. Which is why we are working towards making the conversation around it more fun and engaging so that we can empower as many people as we can.
What you need to know before putting your money into mutual funds
Have you made your first investment yet?
If not, read the series of articles covering why you should invest to how you can get started.
If you’re a fan of FDs but hate their illiquid nature then, Liquid funds are the way for you
Liquid funds offer you the best of both worlds, liquidity and returns that are comparable, if not better, than those of FDs.
And also, they’re way safer than your run of the mill equity funds.
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