How to use tax-saving investments to achieve financial goals

Saving taxes shouldn’t be the only purpose behind investing in tax-saving investments. By their very nature, tax-saving investments make for excellent long-term investment avenues because they come with lock-in periods. The lock-in periods, which are as long that as 15 years in some cases, force the investor to stay invested and it is this compulsion to stay invested translates into high returns over long periods of time.

It is for this reason that tax-saving investments can help you achieve your financial goals like a child’s education or wedding, a house you want to buy or a trip you want to take to a foreign country or even your own retirement. Staying invested for long periods of times means you keep adding to the kitty gradually and the kitty grows into a sizeable corpus, especially when the power of compounding starts to kick in.

But the catch is that not all tax-saving investments are the same and one size doesn’t fit all when it comes to investing for goals. Different kinds of goals require investments in different types of tax-saving investments. Ideally, different goals should have different tax-saving portfolios for them.

Long-term goals should have higher exposure to investments that have an equity exposure. Here is where ELSS funds can come in handy. Equity is the only asset class that has the potential to generate inflation-beating returns. But at the same time, equity can also be volatile. The stock markets tend to be turbulent and a bear phase can result in the value of investments going down suddenly. This is why equity is best suited for long-term goals. When the investment goal is 10 year away or more, then you can comfortably ride out the volatility that comes with equity. This is what makes ELSS funds the best tax-saving investment that can be used to achieve goals like a child’s education or wedding or one’s own retirement.

On the other hand, for short-term goals, the best investments would be fixed income investments like tax-saving fixed deposits. These FDs have a lock-in period of 5 years and also earn the investor a tax break under Section 80C. ELSS funds have a shorter lock-in, of 3 years, but for a period of 3-5 years equity can lead to anxiety because of its volatile nature. More so when the short-term goal is a non-negotiable goal like buying a house or paying education fees. For such goals, it is best to invest in FDs to save taxes and fulfill the goal.

For long-term goals, an investor can even have a portfolio mix of equity as well as debt tax-saving investments. While ELSS funds can take care of the equity component, PPF can be a suitable debt component to provide stability to the portfolio. PPF is a fixed income investment that comes with a lock-in period of 15 years. A partial exposure to PPF can be used to mitigate the volatile effects of ELSS funds.

The kind of exposure you decide to have in your portfolio would also depend on your income, age and risk profile. But on a macro level, the best way to get more than just tax saving out of your 80C investments is by planning them in a way that also helps you achieve financial goals.

This article was published on Yahoo Finance on 27 June 2016.

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