Tax planning is the logical analysis of a financial situation from a tax perspective so that financial goals are aligned with tax-efficiency. It encompasses factors like the timing of income, expenses, selection of investments, tax status and common deductions. The importance of tax savings could be realized over the long run: A savings of Rs 1 lakh in taxes every year and invested with 9% annual return accumulates to around Rs 1.50 crore in 30 years.

Among the various tax saving investments available, mutual funds score very high in terms of tax-efficiency .

The genesis of this lies in the way it is constituted and defined for taxation purposes:

Growth option:

In the growth option of a mutual fund scheme, for taxation purposes, the earnings are treated as capital gains and are calculated only when you sell the units. So, unlike in bank FDs, there is no annual outgo of income tax on the accrued gains. This allows better compounding in your. It clearly shows that at the same rate of earnings, the gains in a debt mutual fund are 1.65 times than that from an FD over a 10-year period. Over a 30-year period, the gains in debt fund would be 2.40 times than FD returns. When you sell a mutual fund investment in equity-oriented schemes, the gains are tax-free if held for over a year. In other schemes, gains become almost tax-free due to indexation benefits if held for three years.

Dividend option:

Under this, dividends are tax-free. However, since dividend distribution tax reduces the returns in non-equity schemes, it's better to avoid such schemes.

Wealth tax:

This is not applicable on investments in mutual funds.

Maximize tax-efficiency along with returns:

Make full use of the Rs 1.5-lakh deduction from your taxable income under section 80C. If you are in the 30% tax bracket, you can save up to Rs 46,350 in taxes. Under this section, the best investment option is the equity linked saving scheme (ELSS) as these investments score over all other options on factors like lock-in period, quantum and taxability of returns. The table ELSS Best Among Sec 80C Tools can demonstrate this.

Optimize retirement planning:

Most of us buy pension plans from insurance companies for our retirement without realizing that there are more efficient ways to organize a pension for oneself. In a pension plan, one generally invests a fixed sum every month over his working life and, on retirement, the corpus is used to buy an annuity that enables one to receive a fixed sum as pension every month. In this mode, one pays service tax twice. Also, the pension, which generally is a combination of your investment and earnings thereon, is taxable. A smarter way is to accumulate the savings in mutual funds, where you even get better returns, and use the facility of `Systematic Withdrawal Plan (SWP)' to receive a monthly amount during your sunset years. If structured with professional advice, it comes with almost nil taxation.

Any amount of wealth across various asset classes -be it debt, equity, gold or real estate - can be managed through mutual funds with no income wealth tax liability. The only requirement being that it should be structured very professionally