Forces investors into sub-optimal investments
Given how household savings in financial assets fell 11% in FY12 while those in physical assets like gold and property rose 25%—savings in financial assets fell from 10.4% of GDP in FY11 to 8% in FY12—expectations are the finance minister may hike the exemption limits under Section 80C, indeed that is also one of the recommendations made by the Standing Committee on Finance. Right now, if a taxpayer makes investments up to R1 lakh per year in areas like EPF, PPF, LIC, ELSS, 5-year bank deposits and the like, this is deducted while calculating taxable income. While there is a case for hiking the limit if only to take into account asset inflation over the years, it is time to relook the idea of such exemptions.
In FY12, the total premium collected by life insurance firms was only a bit higher than the total amount of gold imported (R2.9 lakh crore versus R2.7 lakh crore), suggesting that in the face of high inflation, investors still preferred to invest in gold, never mind the tax exemptions. Ditto for bank deposits where growth has slowed given interest rates offered are below inflation levels—SBI’s chief is on record saying he has lost R15,000 crore of deposits in the last few weeks as depositors have moved to products that include liquid mutual funds that don’t have any tax benefits. The other issue is of distorting investments to lock in investors into sub-optimal products. To use one example, HDFC’s Tax Saver Fund which qualifies for 80C benefits gave a 5-year annualised return of 6.84% while the same asset management company’s Top 200 Fund, where an investor does not get any 80C exemption, gave a 5-year annualised return of 9.17%. This applies to most other fund houses. But at high tax brackets, the lower-return fund may be the optimal investment. Why not just remove 80C benefits altogether and compensate taxpayers by raising the base level at which tax rates kick in?