Why you should consider taxation before investing

Why you should consider taxation before investing

“…nothing can be said to be certain, except death and taxes.” The great statesman Benjamin Franklin uttered these words over 200 years ago and they still hold true to this day. Investment is subject to taxation and thus, you must ensure that it does not eat into your returns.

Tax-saving schemes attract many people, but even they are not free of caveats. For instance, in instruments like National Savings Certificate (NSC) and Senior Citizen Savings Scheme (SCSS), the interest amount is added to your income and becomes a tax liability with each year until the tenure ends.

Before delving into the details of why taxation is important for your investments, it is important to determine the type of investor “you” are. The following factors can help answer this question:

  • Your investment goals
  • Your tax bracket

To begin with, taxes can be levied at any predefined point during the three life stages of an investment:

  • Investment/Contribution stage: Tax is not levied as the investment is made in the first stage. However, there is a chance for tax savings under Section 80C, where investments up to ?1.5 lakh can be made tax-exempt.
  • Income earning stage: You begin to earn from your investments in this phase. Interest may be taxed or exempted on certain conditions:
    • Interest on fixed deposit is taxed irrespective of tax slabs.
    • Interest on Public Provident Fund (PPF) is not taxed.
    • Dividend on equities are tax-free.
  • Withdrawal/Maturity stage: Upon maturity, some investments maybe taxed or exempted. Short-term equity investments are taxable on sale within one year. Non-equity mutual funds are taxed as per slab.

Based on this logic, we can classify our earnings as Taxable (T) or Tax-Exempt (E) and further divide them into six categories:

EEE: Exempt –> Exempt –> Exempt

All investments under this are tax-exempt during all three investment stages. Popular investment products include EPF, PPF, etc.

EET: Exempt –> Exempt –> Tax

Withdrawals are taxed at marginal rate. For e.g., NPS.

ETE: Exempt –> Tax -> Exempt

Investments are taxed only on the income earned during the tenure. Examples include NSC and SCSS.

TEE: Tax –> Exempt – > Exempt

Investments are not tax exempt. Popular options are stocks, equity and balanced funds.

TET: Tax –> Exempt -> Tax

Only the interest income is tax exempt. For example: non-equity hybrid funds, debt funds.

TTE: Tax –> Tax -> Exempt

Tax is not levied on maturity. Best examples include fixed deposits (FD) and recurring deposits(RD).

It is imperative to keep the above forms of investment in mind to decide upon the one suited for your needs. Some popular investor categories and their corresponding, suitable products include:

High and mid income-tax bracket investors (less than 60 years):

  • Tax exemptions are extremely important for this category of investors.
  • Their primary focus should be saving tax during the initial investment period by availing tax-saving deductions.
  • In this scenario, EEE, EET, and ETE investments can help to acquire initial rebates. Mixed with conventional options like TEE and TET can even create wealth.

Low income-tax bracket investors (less than 60 years):

  • Tax exemptions do not matter greatly as a token investment in EEE investments is enough.
  • You are better off investing in wealth accumulation instruments, which fall under TEE and TET categories.

Retired investors:

  • Retired people, those likely over the age of 60, enjoy more tax benefits than their younger counterparts.
  • They would benefit more from Senior Citizens Saving Scheme that falls under ETE.
  • Tax-free bonds and debt instruments that offer reasonable returns at minimal risk. These fall under TEE’s.

Non-tax paying investors:

  • The focus should be on wealth generation investments through TEE and TET as tax would not play a significant role.


A penny saved may not always be a penny earned as your money may be tied down for a long period. Also, tax rebates are limited. Therefore, an investment that maximises after-tax returns should be an all-around success.

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