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How to invest your VRS money
A N Shanbhag |
July 26, 2003 13:51 IST
As companies go into cost-cutting mode, voluntary retirement schemes are the order of the day.
The government helps in a small way by offering a tax exemption upto Rs 500,000 on VRS, provided they follow certain guidelines.
Unfortunately, these guidelines were prescribed in 1993 and need to be amended.
The government should drop the condition that compensation should not exceed three months' salary for each completed year of service or salary at the time of taking VRS multiplied by the months of service left before retirement.
What's the problem with these guidelines? In practice, the employee receives much less because the definition of salary excludes some allowances, perks, PF benefit, et cetera.
Also, Rs 500,000 is too low a figure for the tax exemption.
The taxable portion of the package takes the employee's income under the head 'Salaries' over Rs 500,000 and therefore, he has to claim lower standard deduction of Rs 20,000 in place of Rs 30,000.
Also, he is robbed of the rebate under Section 88 where he could have contributed Rs 100,000 and saved tax of Rs 15,000. Moreover, a salary of over Rs 850,000 attracts a draconian 10 per cent surcharge.
This article is aimed at people who've accepted VRS and decided not to take another job. Not much can be done to save taxes in the current year.
But, they certainly can plan for the future. The aim is to get the highest after-tax income possible, without sacrificing safety and liquidity. Also, they need to receive a high monthly income. Let's chalk out the optimum plan.
The current market rate of interest is 8 per cent plus, mostly taxable. Careful planning can render this mostly non-taxable.
Let's see how this can be achieved by looking at a person who has retired with total after-tax benefits of Rs 25 lakh (Rs 2.5 million).
Refer to the table below:
Investment Plan for a Rs 25 lakh VRS
| Avenues | Amount
Deposited Rs | Interest
Thereon Rs | Take Home | Rs |
| Post Office MIS | 600,000 | 48,000 | Post Office MIS | 48,000 |
| RBI Saving Bonds | 1,150,000 | 92,000 | RBI Saving Bonds | 92,000 |
| ICICI TSBs | 3,000 | 150 | ICICI TSB Interest | 150 |
| PPF | 70,000 | 5,600 | Less : PPF Contribution | 70,000 |
| Mutual Fund PODs | 677,000 | 54,160 | Less : TSB Contribution | 3,000 |
| Total | 2,500,000 | 199,910 | Withdraw from MFs | 132,760 |
| Tax Computations | | | Total | 199,910 |
| Post Office MIS | 600,000 | 48,000 | Tax payable | 1,013 |
| RBI Saving bonds | 1,150,000 | 92,000 | Available for consumption | 198,897 |
| ICICI TSBs | 3,000 | 150 | | |
| Growth of withdrawals | | 9,834 | Tax on Capital gains | |
| Gross Income | | 149,984 | | |
| Less : Growth of withdrawals | | 9,834 | Capital of withdrawals | 122,926 |
| Taxable income | | 140,150 | Growth of withdrawals | 9,834 |
| Deductions | u/s 80L | 12,000 | Total | 132,760 |
| Taxable income | | 128,150 | | |
| Tax thereon | | 14,630 | Tax on Growth | 983 |
| Less : Rebate on PPF | 70,000 | 14,000 | Tax on Normal Income | 30 |
| Less : Rebate on TSB | 3,000 | 600 | Total Tax | 1,013 |
| Tax Payable | | 30 | | |
Post Office Monthly Income Scheme (MIS)
MIS is safe and offers the highest returns at 8 per cent p.a., payable monthly with a bonus of 10 per cent at end of its six-year term.
The equivalent annualised rate works out at 9.66 per cent and is covered by Section 80L. Deposit Rs 600,000 in this scheme. The interest earned will be Rs 48,000 (Rs 4,000 per month).
RBI Taxable Savings Bonds
The interest is 8 per cent, fully taxable, payable half yearly during its six-year term. The equivalent annualised rate works out at 8.16 per cent.
Deposit Rs 11,50,000 in these bonds to earn Rs 92,000 annual interest.
Tax Rebate u/s 88
Now, we turn to tax rebates. Contributions to some specified schemes (PPF, LIC, etc.) qualify for a 20 per cent rebate if the gross total income is Rs 150,000 or less.
The gross total income consists of all the non-exempt income inclusive of capital gains, but before Sections 80L, 80D, etc deductions.
The rebate rate falls to 15 per cent on incomes between Rs 150,000 and Rs 500,000. No rebate is available on income over Rs 500,000.
So, one should strive to keep one's gross income below Rs 150,000. The aggregate contribution to all these schemes qualifying for the rebate is subject to a ceiling of Rs 70,000. A higher qualifying limit of Rs 100,000 is applicable to infrastructure-related instruments.
Public Provident FundContribute Rs 70,000 to PPF to cut tax by Rs 14,000 by virtue of rebate at 20 per cent. The rate of interest is 8 per cent p.a., tax-free, and being cumulative in nature, is credited to the account at the end of each financial year.
This rate, is so attractive that even those who aren't eligible for the rebate should contribute the maximum Rs 70,000 every year to the scheme.
The term is 16 financial years and this is a bad deterrent, especially for a retired person. However, a loan can be obtained on up to 25 per cent of the balance t the end of the second preceding financial year in or after the third year of opening the account.
No loan is possible after the end of the sixth financial year when the withdrawal facility begins. Beginning from the seventh year an one can withdraw 50 per cent of the balance at the end of the fourth or the first previous financial year, whichever is lower.
The biggest advantage of this is that the amount withdrawn during a year from PPF can be used for contributions to PPF for the year! Effectively, after the first six years, the account becomes self-sustaining and the rebate can be earned for the entire term of 16 years.
- Tax-Saving Bonds of ICICI/IDBI (TSB)
Additional contributions to TSBs up to Rs 30,000 earn tax rebates. But we need only Rs 3,000 to come out of the tax net. The interest is lower at around 5 per cent p.a., and is covered by Section 80L.
Mutual Funds
Park the rest of your funds in pure-growth, open-ended, debt-based schemes. Being open-ended, these are like a SB account where you can deposit and withdraw at will.
Being debt-based, it's fairly safe and nowadays earns about 10 per cent plus. Being pure-growth, the returns are in the nature of capital gains and after a holding period of one year, the concessional tax at 10 per cent is applicable, and that too, only on withdrawals.
This avenue is required for regular withdrawals to make up for contribution to Section 88. This is needed at least for 6 years until the PPF withdrawals start.
The amount withdrawn from the MFs would no doubt deplete the MF corpus. However, this money is used to contribute to PPF and TSBs thereby keeping the total capital intact.
Therefore, a person who retires with a corpus of Rs 25 lakh (Rs 2.5 million) can earn about Rs 200,000 annually and pay very little taxes.
Also, after accepting VRS, you may no longer be covered by Mediclaim. To protect you against the heavy cost of hospitalisation buy a Mediclaim policy.
There is a deduction available up to Rs 10,000 on the premiums paid. Reduce your contribution to TSBs correspondingly.
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