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Section 80C limit: Should you use only life insurance to save taxes?

Amol Joshi

Insurance and tax-saving have been synonymous in the minds of investors for as long as we can remember. Insurance probably had what most financial products can only dream of i.e robust national distribution network of agents, a giant company in the segment having a name that evokes trust, supposed guaranteed bonuses & guaranteed return products, and to top it all, most products giving extremely high commissions to sales channels.

This led to insurance being probably the first product that an investor invested in when he or she started earning.

At its most basic level, insurance is a cover that ‘makes good financial loss’ arising when something goes wrong. The related conditions are clearly laid out in policy document. Popular insurance products or traditional insurance products have less of life ‘cover’ and more of investment element.

It is historically seen and proven with numbers that traditional plans provide a low single-digit return. The policies usually have tenures running into decades, the tenure could be as long as 35 years. Policies that last for lifetime also have poor liquidity. Unless you hold the traditional plans till maturity you are unlikely to get even that low single digit return.

Lastly, the impact of singe-digit return is – if an instrument with Rs 50,000 as an annual premium with 35 years tenure delivers 5% CAGR return, the end corpus will be Rs 47.41 lakhs. If one were to invest in other products and at 8% CAGR the corpus will be Rs 93 lakhs. It will be Rs 149 lakhs at 10% CAGR and at 12% CAGR, end corpus will be Rs 241 lakhs.

At a small percentage increase in CAGR, the end corpus grows multi-fold. It is understood that while choosing other products, life cover will have to be purchased separately and taxation will be on top to be considered.

All this considered, how to save taxes with insurance? Enter Term plans. Term plans are insurance products that cover risk to life. In other words, term plan pays only in case of loss of life. In an event of insured surviving policy term, there is no maturity benefit. This is precisely what makes term plans one of the cheapest forms of insurance. Rs 1 crore of life cover would have a premium of less than Rs 15,000 per year for a 35 year old.

Such kind of cover amount may take care of financial liabilities &/or financial dependents. There is of course the need to calculate ideal cover amount, but suffice to say that this is a large amount that will help nominees in case of an unfortunate event. Such kind of life cover is not imaginable in case of traditional plans, premium will be several lakhs per year, there-by taking the product out of reach for most.

Best way of saving tax via insurance is to buy an adequate term cover. For the remaining limit of section 80C, look for products that suit your risk profile. Say, you can choose PPF in case safety is what you desire with tax-free returns and also returns that are typically higher than fixed deposits; go with ELSS (Equity Linked Saving Scheme) or popularly known as Tax Saver mutual funds if equity exposure is what you desire along with relatively short lock-in of just 3 years.

In fact, treat the mandatory tax-saving exercise as an asset allocation exercise by allocation amounts to debt (PPF) as well as equity (ELSS MF) after considering the term plan premium out-go. Remember, it is not mandatory to save tax ‘only via’ insurance. Combination of products mentioned here will produce better results for you and your portfolio.