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Check out the best small savings schemes
Sunil Nayanar
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February 21, 2005 16:03 IST

For those looking at simple tax saving instruments, small saving schemes continue to be an attractive option.

It is that time of the year again. Breaking your head over how to reduce the tax burden? Your tax consultant will tell you many ways to do that, but there is always one class of investments, which is a safe way to save on taxes.

And if you look at returns it is not a bad investment vehicle either. That is, if you are not too hung up on the liquidity part. We are, of course, talking about small saving schemes which have been time-honoured tax saving vehicles.

These investments are also a good way to insure against any future changes in interest rates, thus sparing you of any headaches later (except in the case of the public provident fund where the rates are liable to change).

Here is a rundown on the best small saving schemes, which are available to investors.

Public provident fund

PPF is among the most popular small saving schemes. This scheme offers a return of 8 per cent and has a maturity period of 15 years. It provides regular savings by ensuring that contributions (which can vary from Rs 500 to Rs 70,000 per annum) are made every year.

For efficient tax saving over a longer term there is nothing better than PPF, which has been touted as the fixed-income investment for high-tax payers.

But for those who are looking for liquidity, PPF is not the best option. Withdrawals are permitted only after the expiry of five years from the end of the financial year in which the first deposit is made.

The amount that can be withdrawn depends on the balance present under your PPF account. PPF does not provide any avenues for regular income and only provides for accumulation of interest income over a 15-year period, and the lump-sum amount (principal + interest) is payable on maturity.

There is no protection against inflation. Hence, during years when inflation is high, your real rate of return on your investment in PPF could be low.

The lump-sum amount that you receive on maturity (at the end of 15 years) is completely tax-free. One can claim tax-benefits under section 88 of the Income Tax Act for deposits made up to Rs 70,000 per annum in the PPF account. Also the interest is exempt from tax under section 10.

If you are relatively young and have time on your side, then PPF is for you. Also if your account is nearing maturity, contribute the maximum you can so that you can make use of the best rates in the fixed-income universe.

Employees' provident fund

The EPF programme, established in 1952, is a contributory provident fund, providing benefits upon retirement, resignation or death, based on the accumulated contributions plus interest.

Under this scheme both the employer and the employee contribute 12 per cent of annual income towards the provident fund.

Of this 24 per cent contribution, 8.33 per cent is channelled towards a family pension plan for all employees who joined the provident fund scheme post-1995.

The remaining portion (15.67 per cent) assures a return on 9.5 per cent per annum. This return is guaranteed.

The advantage for salaried employees is that they can take full advantage of the 9.5 per cent offer. Investments upto a maximum of Rs 70,000 per annum is eligible for rebate under Section 88.

Withdrawals from EPF is allowed under certain special circumstances like buying a house, children's wedding, etc. If you quit your job and provide a declaration that you do not intend to work for the next six months you can withdraw your EPF.

But the catch is that the 8.33 per cent, which finds its way into the family pension scheme does not earn the 9.5 per cent return.

If you withdraw your EPF within 10 years of service or membership in the EPF, you get the family pension portion as a lump-sum amount but at a discounted value, which is far less than the 9.5 per cent return.

However, if you opt out after 10 years of service you are eligible for pension. But if you are less than 54 years of age, your contribution to family pension account is not returned to you.

Instead, you get a scheme certificate, which will entail you to a pension after you are eligible for it (54 years). Also, only a maximum of one-third of the total amount is paid to you upfront. The rest will come to you necessarily as pension.

National savings certificate

NSC is an assured return scheme and provides for tax rebates under section 88. Interest is payable at 8 per cent for a duration of six years, which is relatively lower compared to other small saving schemes.

Here, investors are required to make a single deposit and the interest compounded is returned along with the principal amount on maturity.

However, NSC suffers on account of liquidity, as premature withdrawals can be done under specific circumstances only, such as death of the holder(s), forfeiture by the pledgee or under court's order.

Like PPF, NSCs are not suitable for those who yearn for regular income and are basically for those looking at safe long-term investments. NSC investors enjoy tax benefits under section 88.

Interest is eligible for deduction under section 80L upto a maximum limit of Rs 12,000. Also, the accrued interest is automatically reinvested, and qualifies for benefit under section 88.

Thus, NSC is an ideal vehicle for those investors who are looking at tax benefits on a longer-term basis and are not too bothered about liquidity.

Kisan Vikas Patra

Want to double your investments in less than nine years? KVP is for you then. But there's a catch. The scheme, which offers to double your money in eight years and seven months, offers no benefits under the Income Tax Act.

In terms of liquidity the scheme is better than PPF and NSC. One can exit the scheme any time after 2.5 years from the investment date, though investors will have to bear the loss of interest for the invested time period.

Though KVP is not meant for regular income, it is a safe avenue of investment for those without pressing tax concerns. Liquidity is also reasonably higher here.

Post office monthly income scheme

Post office monthly income schemes provide a monthly income at 8 per cent per annum. On completion of six years, a 10 per cent bonus on the principal sum is provided. The scheme offers better liquidity, with investors having an exit option after one year from the investment date.

An exit after one year would also entail a loss of 5 per cent of the amount invested.

While there is no loss of interest earnings, the loss of principal can be significant if the amount invested is high.

Investors have to wait for a three-year period to withdraw from the scheme without attracting the penalty. The minimum investment for a single and joint account is Rs 6000, while the maximum limit is Rs 300,000 for a single account and Rs 600,000 for a joint account.

The interest on investments as well as bonus received on maturity is eligible for tax benefits under Section 80L.

In short, it is suitable for people who wish to invest a lump-sum amount initially and earn interest on a monthly basis, which makes it an ideal investment vehicle for retired people.

Post office time deposits

Post office time deposits are available for periods ranging from one year to five years. The current rate for a one-year deposit is 6.25 per cent.

Interest payments are made annually. Investors have an exit option within six months without receiving any interest. There is a one-year lock-in for exit with interest receipt. A penalty of 2 per cent is deducted from the relevant rate in case of premature withdrawals.

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