A quick disclaimer to begin. My favourite tax-saving investment does not have to be your favourite tax-saving investment and we can always agree to disagree. We discussed “Things to consider before investing in a tax-saving product” in an earlier post. The post is a good primer on how to think about your tax-saving choices.
My preferred tax-saving instrument is PPF (Public Provident Fund). And for me, PPF is not just a tax-saving product. I would invest in PPF even without Section 80C tax benefit. And here are a few reasons for my preference.
#1 PPF Is the Closest I Get to Earning Tax-Free and Risk-Free Interest
I don’t have an EPF (Employee Provident Fund) account. Thus, PPF is the only product that offers me tax-free and risk-free interest. By the way, I do not mean that EPF is a superior product to PPF. Yes, EPF offers a higher rate of interest than PPF.
However, even if you have an EPF account, you must consider PPF. Why?
Doesn’t EPF offer a higher rate of interest than PPF? Yes, it does but an EPF has its own set of limitations. EPF can’t be continued beyond retirement. You may not take out money from the EPF account and the account will continue to earn interest. However, once you stop contributing to your EPF account for over 3 years, the EPF account becomes inoperative and the interest earned on the EPF balance becomes taxable.
Note that your contributions to the EPF account may not stop only because of retirement. You may move abroad for work or your new employer in India may not offer EPF.
No such problems with PPF. Yes, NRIs can’t extend PPF accounts. Apart from that limitation, there are no such complications with PPF.
A PPF account can be continued for life.
#2 PPF Offers a Very Good Rate of Return for a Fixed Income Product
PPF is not a market-linked product. The Government announces the rate of interest every quarter. Due to political compulsions, the interest rate is usually high.
The guidance for PPF interest rate is 0.25% percent over the 10-year Government Bond yield. However, the Government is reluctant to reduce PPF interest rates even when the Government Bond yields go down. Here is an example.
#3 You Can Only Invest Rs 1.5 Lacs per annum
Therefore, if you don’t invest in this year, the opportunity is gone forever. If you don’t invest this year in PPF for any reason, you cannot make up for it in the next financial year. Contrast this with other tax-saving products such as ELSS or tax-saving fixed deposits. You can invest Rs 10 lacs or even more in an ELSS fund in a financial year. There is no upper limit on investment. For me, this is a good enough reason to NOT miss out on PPF quota every year.
In fact, if your cash flows and asset allocation rules permit, you can consider maximising PPF investments for your family members too (even though you may not get any tax benefit for it). The limit of Rs 1.5 lacs per financial year is per adult.
So, if you have a family of 4 (self, spouse and 2 minor kids), you can invest a maximum of Rs 3 lacs in PPF in a financial year. Rs 1.5 lacs in your account and Rs 1.5 lacs in your spouse’s account.
You must also open a PPF account for your kids. However, a minor’s PPF account must have a guardian. The limit of Rs 1.5 lacs applies to cumulative contribution to your PPF account and to those PPF accounts where you are the guardian.
Let’s assume you are the guardian in your minor daughter’s PPF account. And you invest Rs 1 lac in your PPF account in the first week of April. For the remainder of the financial year, you cannot put more than Rs 50K cumulatively in your and your daughter’s PPF account. Excess contribution above Rs 1.5 lacs in a financial year does not earn any interest. You might ask how the Government will know about contributions to your minor kids’ accounts. Well, with technology, expect that to happen.
Once your child becomes major (attains 18 years of age), her account shall count as a separate adult PPF account and you will be able to invest an additional Rs 1.5 lacs per year for the family.
#4 PPF Becomes Very Flexible after Initial Maturity of 15 Years
You can’t take money easily from the PPF account until the account completes 15 years. That’s a reason why many investors don’t prefer PPF. I concede that’s a drawback.
However, once the PPF account completes 15 years, it becomes extremely flexible. You can extend the PPF account with or without contribution.
If you extend the account WITH contribution, you can withdraw up to 60% of the balance at the time of extension over the next 5 years. Only one additional restriction is that you can withdraw only once every year.
Even if you extend the account WITHOUT contribution (this is the default option), your PPF account continues to earn tax-free interest. No restriction apart from one withdrawal per financial year. No limit of withdrawal amount. You can withdraw the entire PPF balance.
Related Reading: Taking a Loan against PPF Account
If used smartly, PPF can work as an excellent pension product during your retirement.
So, the above aspects make PPF my preferred choice of tax-saving.
What about you? What is your favourite tax-saving product and why? Do let us know in the comments section.