How much should you invest to save income tax?

We all want to save income tax. After all, it is our hard earned money! If we can save income tax legitimately, why not?

But how much do you need to invest to save maximum income tax? Here is a guide that helps you find out.

[This article has been inspired by a query from readers Kamlesh, Ravikiran and Ashish]

Yes, we all know that income taxes are inevitable. However, the government has allowed certain means using which we can save tax. So, why not use them and save some tax?

The main avenue to save income tax is to make investments in instruments qualified for section 80C deduction. The question is: How much do you need to invest in order to save tax?

Let’s calculate that!

Knowing your income tax liability – The first step

Before we try to find out how much you need to invest in order to save income tax, you need to know how much tax you are liable to pay in the first place. Only then, we can calculate the amount to be invested to save tax!

So, as the first step, please calculate the amount of tax payable by you. Please read “Calculating your income tax liability – first step to saving tax” for a step-by-step guide.

An overview of Section 80C

Investments made in certain instruments are deductible from your income under Sec 80C. Since this amount is deducted directly from your income, you would be able to save proportionate income tax as per the IT slab applicable to you.

(Please read “Income Tax (IT) Slabs / Brackets and Rates” to know the currently applicable IT slabs)

Of course, unlimited investments are not deductible. There is a cap – the upper limit to investments is Rs. 1 Lakh per year as of now (FY 2008-09, AY 2009-10).

Please read “Saving Income Tax – Understanding Section 80C Deductions” to find out all the details about section 80C deductions and the instruments qualified for section 80C deductions.

How much should you invest to save tax?

As mentioned above, the first step is to calculate your tax liability. Then, we can work backwards and find out how much you need to save in order to save income tax.

Please note that the same investment would not save the same amount of tax for everyone – how much tax you save depends on the highest tax slab that you fall into.

Let’s understand this using some examples.

Example 1

Let’s say your income is Rs. 4,00,000 per year. The tax liability on this works out to Rs. 35,000.

(Please read “Calculating your income tax liability – first step to saving tax” for a step-by-step guide on how to calculate the income tax payable by you)

Now, if you invest the full Rs. 1 Lakh permissible by section 80C, your taxable income would get reduced to Rs. 3,00,000.

In this case, your tax liability would be Rs. 15,000.

Thus, tax saved by you by investing Rs. 1 Lakh is Rs. 20,000.

Example 2

Let’s say your income is Rs. 7,00,000 per year. The tax liability on this works out to Rs. 1,15,000.

Now, if you invest the full Rs. 1 Lakh permissible by section 80C, your taxable income would get reduced to Rs. 6,00,000.

In this case, your tax liability would be Rs. 85,000.

Thus, tax saved by you by investing Rs. 1 Lakh is Rs. 30,000.

Example 3

Let’s say your income is Rs. 3,00,000 per year. The tax liability on this works out to Rs. 15,000.

Now, if you invest the full Rs. 1 Lakh permissible by section 80C, your taxable income would get reduced to Rs. 2,00,000.

In this case, your tax liability would be Rs. 5,000.

Thus, tax saved by you by investing Rs. 1 Lakh is Rs. 10,000.

Understanding how it works

Confused why the same amount invested saves different amounts of tax in these three examples?

This is because the amount of tax saves is directly related to the income tax bracket in which your income falls.

Remember: For the same investment amount, the higher the income, the more you can save by investing in section 80C instruments.

This is because the amount invested in section 80C instruments is deducted from your income, thereby reducing income. If the reduction is from a highest tax slab, obviously it would result in higher tax saving!

So, how much should you invest to save tax?

As you would have noticed from the examples above, it is not possible to save the entire income tax using just section 80C investments in most cases.

(But there are many other ways to save income tax apart from making Sec 80C investments. Please read “Reached Section 80C limit? You can still save more income tax!”)

The tax can be saved entirely only when your income is between Rs. 1,50,000 and Rs. 2,50,000 (for men), or between Rs. 1,85,000 and Rs. 2,85,000 (for women), or between Rs. 2,25,000 and Rs. 3,25,000 (for senior citizens).

In these cases, the section 80C investment would make your income go below the zero-tax threshold – and you would not have to pay any tax.

If your income falls between the above mentioned ranges, the amount you need to invest in section 80C instruments in order to save the entire income tax is:

Your income
Less Rs. 1,50,000 (for men)

Your income
Less Rs. 1,80,000 (for women)

Your income
Less Rs. 2,25,000 (for senior citizens)

If your income is more than this threshold, invest the full Rs. 1 Lakh allowed under section 80C to save the maximum income tax.

Example (for men)

Let’s say your income is Rs. 1,75,000 per year. The tax liability on this works out to Rs. 2,500.

(Please read “Calculating your income tax liability – first step to saving tax” for a step-by-step guide on how to calculate the income tax payable by you)

Amount needed to be invested for full tax saving is:

Rs. 1,75,000 – Rs. 1,50,000
= Rs. 25,000.

If you invest Rs. 25,000 in instruments qualified u/s 80C, Rs. 25,000 would be deducted from your taxable income and it would get reduced to Rs. 1,50,000 – thus, you would have to pay no tax on it!

Conclusion

The question “how much do I need to invest in order to save income tax” is rather inappropriate.

You would be able to save the full income tax by making section 80C investments only if your income falls between Rs. 1,50,000 and Rs. 2,50,000 (for men), or between Rs. 1,85,000 and Rs. 2,85,000 (for women), or between Rs. 2,25,000 and Rs. 3,25,000 (for senior citizens).

If your income is more than the ranges mentioned above, you would be able to save tax depending on the income tax bracket that you fall into – but you would not be able to save full income tax by just investing in section 80C instruments.

(However, there are many other ways to save income tax apart from making Sec 80C investments. Please read “Reached Section 80C limit? You can still save more income tax!”)

Other articles you might be interested in:

• Calculating your income tax liability – first step to saving tax
• Reached Section 80C limit? You can still save more income tax!
• Deduction of expenses on medical treatment – Section 80DDB
• Are you disabled? Save income tax under section 80U
• Deduction for rent paid – Section 80GG
• LIC launches “Jeevan Varsha” – Close Ended Money Back Plan with guaranteed additions
• Fixed Deposits (FD) for saving income tax through section 80C
• Tata Capital Debenture Issue – A review
• Make donations, save income tax – Section 80G
• Income Tax (IT) Slabs / Brackets – FY 2008-09 AY 2009-10
• Have a disabled dependent? Save income tax using section 80DD
• Income Tax (IT) benefit of an education / study loan – Section 80E

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