Every individual needs to pay tax if their income exceeds the basic tax exemption limit under the Income Tax Act. You can reduce your income tax liability by making investments eligible for tax deductions under section 80C of the Act. This section allows you to deduct specific assets and expenses from your income.
Some eligible tax deductions under Section 80C are repayment of the principal amount of a housing loan, premium paid for a life insurance policy, children’s tuition fees, investment in tax-saver fixed deposits (FDs), and more. Under Section 80C, you can claim tax deductions up to ₹1,50,000 in a financial year. Read on to understand how you can avail the benefits of this section for maximum tax savings.
What are Tax-Saving FDs?
These FD schemes are formed to encourage habits of savings and investments among individuals. Tax-saving FDs offer a tax benefit to individuals and Hindu Undivided Families (HUFs). They have a tenure of 5 years. The minimum investment amount in tax-saving FDs may vary from bank to bank.
The maximum amount of investment in tax-saving FDs eligible for deduction under Section 80C of the IT Act is ₹1,50,000. You can deduct the amount invested in the tax-saver FD from your total income to reduce your taxable income and lower your tax liability.
Critical Features of Tax-Saver FD Scheme
FDs are popular among the lower and middle-income groups in India. Tax-saver FDs are different from general FD schemes. The motive of tax-saver FDs is to encourage investments and savings. The key features of tax-saving FD schemes are:
- The tax-saving FD schemes have a tenure of 5 years.
- You can earn a fixed income on the amount invested in an FD scheme.
- The interest earned on the tax-saver FDs is taxable, and the tax deducted at source (TDS) on the interest amount is reflected in Form 26AS for the relevant financial year.
- The maximum deduction allowed under Section 80C for investment in a tax-saving FD scheme is ₹1,50,000 per year.
- It is a risk-free investment option.
Benefits of Tax-Saver FD Scheme
- You can earn interest at higher rates than the interest on a savings account.
- The return on the FD is fixed and does not fluctuate or change till maturity.
- The lock-in period of 5 years keeps your fund safely invested for 5 years, and the risk of re-investing the funds at lower interest rates is eliminated.
- The risk factor is very low as the schemes are framed per the RBI guidelines.
- The amount invested in the tax-saver FD scheme can be deducted from your total income. You can claim up to ₹1,50,000 of tax deduction.
Drawbacks of Tax-Saver FD Scheme
- The lock-in period of 5 years is compulsory for claiming the tax deduction in the year of investment.
- Pre-mature withdrawal of the tax-saver FD is not allowed. If it is withdrawn before maturity, the tax deduction is reversed. The banks also charge penalties on pre-mature withdrawal of the FD.
- The FDs offer a fixed interest income and do not change or fluctuate with the market’s movement. Hence, you cannot earn exceptionally high returns in favourable market conditions.
- The interest income earned on the FDs is not exempted from tax.
- Only individuals and HUFs can benefit from deductions under Section 80C for the lump sum deposit in the tax-saver FD scheme. It does not apply to other entities.
Comparison with Other Investment Options
Other investment options are eligible for deduction under Section 80C of the Income Tax Act. The comparison of FDs with other investment options eligible for deduction under 80C is given below:
FD vs Equity Linked Saving Scheme (ELSS)
- Returns: ELSS funds can provide higher returns than FDs. However, the returns on FDs are fixed, whereas the returns on ELSS funds are not fixed and can be affected by market conditions.
- Lock-in period: The FD scheme has a lock-in period of 5 years, whereas the investment in ELSS funds has a lock-in period of 3 years.
- Taxability of returns: The interest earned on FDs is included in the investor’s total income and taxed accordingly. The capital gain arising after the maturity of ELSS funds is long-term capital gain. Long-term capital gains above ₹1,00,000 are taxable.
FD vs Public Provident Fund (PPF)
- Returns: PPF can provide a higher return than an FD. The interest rate on FDs and PPFs is fixed and not subject to market volatility.
- Lock-in period: The FD scheme has a lock-in period of 5 years, whereas the lock-in period of PPF is 15 years.
- Taxability of returns: The interest earned each year on FDs is included in the investor’s total income for that financial year and taxed accordingly. The interest earned on PPF is not taxable.
FD vs National Savings Certificate (NSC)
- Returns: NSC can provide a higher return than an FD. However, the rate of interest on FDs and NSC is fixed.
- Lock-in period: Both the FD scheme and the NSC have a maturity period of 5 years.
- Taxability of returns: The interest earned each year on FDs is included in the investor’s total income for that financial year and taxed accordingly. The interest per year earned on the NSC is re-invested, and you can claim the deduction of the interest amount under Section 80C if the limit of ₹1,50,000 is not thoroughly exhausted. You can claim the interest deduction at the end of years 1,2,3 and 4. The interest earned for the last or fifth year is taxable as it cannot be re-invested.
FD vs Sukanya Samriddhi Yojana (SSY)
- Returns: The interest rate on FDs is updated continuously. The rate of interest on the amount invested in SSY is updated by the Central Government. It can be similar to or slightly lower or higher than the rates of FDs.
- Lock-in period: Tax-saver FDs have a lock-in period of 5 years. The amount invested in SSY can be withdrawn after the girl has attained the age of 21 years or her marriage, whichever is earlier. Partial withdrawal is also allowed for specific purposes after the girl reaches the age of 18 years.
- Taxability of returns: The interest earned each year on FDs is included in the investor’s total income for that financial year and taxed accordingly. The interest and the maturity amount accumulated under the Sukanya Samriddhi Yojana are exempt from tax.
Key Features of Section 80C
- This section applies to individuals and Hindu Undivided Families (HUFs). Companies, partnership firms, and other entities are not allowed tax deductions under 80C.
- The maximum deductions allowed under this section is ₹1,50,000 per year.
- As per Section 80C, you can claim deductions for the following investments:
i. Amount invested in Public Provident Fund (PPF), Voluntary Provident Fund (VPF) and Employee Provident Fund (EPF)
ii. Amount invested in 5-year tax-saver FDs
iii. Amount deposited in the 5-year post office deposit scheme
iv. Investment in Equity Linked Saving Scheme (ELSS) funds
v. Investment in Nation Savings Certificates (NSCs)
vi. Investment in the Senior Citizens Saving Scheme (SCSS) for individuals above the age of 60 years.
vii. Amount deposited under the Sukanya Samriddhi Yojana scheme
viii. Unit Linked Insurance plans
ix. Purchase of Infrastructure Bonds and National Bank for Agricultural and Rural Development (NABARD) rural bonds.
- As per Section 80C, you can claim deductions for the following expenses incurred during the financial year.
i. Repayment of the principal amount of the home loan
ii. Tuition fees paid for the children’s education
iii. Stamp duty expenses incurred on the registration of house property
iv. Premium paid for life insurance policy
Let us understand the effect of tax deductions claimed under Section 80C on your net taxable income with the help of an example:
Say you are Mr A (an individual), 35 years of age and your total gross income from all sources is ₹12,00,000 for the financial year 2020-2021. In this financial year, you have invested in a tax-saver FD worth ₹1,00,000, paid the tuition fee of your child (₹25,000) and repaid the home loan principle of ₹50,000.
Now let us calculate net taxable income with and without claiming the deductions of section 80C:
|Particulars||With Section 80C deductions (₹)||Without Section 80C deductions (₹)|
|Gross Total Income (A)||12,00,000||12,00,000|
|Tax deductions under section 80C|
|(i) Amount invested in tax-saver FD||1,00,000||–|
|(ii) Tuition fees paid||25,000||–|
|(iii) Repayment of house loan principal amount||50,000||–|
|Total deductions under Section 80C (i+ii+iii) (B)||1,75,000||–|
|Maximum permissible deductions as per Section 80C (Lower of ₹1,50,000 or total investments or expenses incurred by the taxpayer that are eligible for deduction under 80C) (C)||1,50,000||–|
|Net Taxable Income (A-C)||10,50,000||12,00,000|
Hence, you can observe that by making investments and incurring expenses allowed under Section 80C, you can reduce the net income chargeable to tax and save your income tax.
Sections 80C, 80CCC, 80CCD
The overall tax deduction limit under Sections 80C, 80CCC and 80CCD is ₹1,50,000.
However, if you are an employee or a self-employed individual, you can claim an additional deduction of ₹50,000 under Section 80CCD (1b) for contribution to the National Pension Scheme or Atal Pension Yojana.
Factors to be considered before choosing the tax-saving FD investment option –
- Risk appetite: Your risk-taking capacity is vital in choosing the most suitable investment option. The FD scheme can be your best choice if you want to earn fixed returns without taking high risks. It will give you fixed returns at minimal risk and the benefit of tax deduction under 80C.
- Tenure of investment: If you have surplus funds that you can invest for at least five years, then tax-saver FDs can be good for you. You can also look for other investment options, such as ELSS, if you want a shorter lock-in period.
- Expectation of returns: If you want to earn higher returns, you must take risks and invest in other options that offer returns per market conditions. High risk can provide high returns. But tax-saver FDs are the best option if you want moderate risk.
- Future financial plans: The type of investments you decide to make shall not be done only to save tax. You should plan your investments according to your future financial goals and major expenditures.
Frequently Asked Questions
Can I withdraw the amount invested in a tax-saver FD before maturity?
No, the tax-saver FDs have a lock-in period of 5 years, and you cannot withdraw the amount before maturity. Pre-mature withdrawal will result in the reversal of tax benefits claimed by you in the earlier financial year, and the bank will charge a penalty.
Is the interest earned on the tax-saver FD tax-free?
No, the interest earned on tax-saver FDs is chargeable to tax. The interest earned per year is added to the income of that year.
Can I claim a tax deduction of ₹3,00,000 for investing in two tax-saver FDs of ₹1,50,000 each?
No, the maximum amount of investment eligible for deduction under Section 80C is ₹1,50,000. Therefore, you can claim benefits for any one of your tax-saver FDs.
What is the benefit of investing in a tax-saver FD?
You can earn fixed interest with minimum risk and benefit from tax deductions under Section 80C by investing in a tax-saver FD.
Can I use tax-saver FD as a security for taking a loan from the bank?
The tax-saver FDs cannot be offered as collateral security for taking a bank loan.