Actually!!
Do find wood and touch it fast if you have not crossed 45 yet. If you have, you are still entitled to a little lesser benefit.
Today's idea is to discuss Public Providend Fund (PPF) as a tool to build wealth or alternatively use it as a self financing Tax Saving tool but not both.
Consider two scenarios:
Scenario one:
Today in July 2010 you open a PPF account in a post office, or SBI branch or any authorised nationalised bank like PNB or Central Bank and make an initial deposit of Rupees 20000 only. For the next 4 years on 31st March 2011, 2012, 2013 and 2014, you need to make a deposit of Rs. 20000 four times, i.e. a total amount of Rs.100000 in about 4 years. The amount deposited is eligible for a tax deduction to the maximum extent of about 30%. On 1st April 2016, you are entitled to withdraw up to 50% of balance as on 31st March 2013. (Every year, you can withdraw 50% of the balance three years back). We will presume that you will actually withdraw only Rs.20000 every year and immediately re-deposit the same. Thus on 1st April 2016 onwards your job is to visit the bank once a year, withdraw and redeposit Rs.20000 and keep on doing it till 31st March 2040. Benefits?
Every deposit of Rs.20000 made annually gives you a tax rebate of about Rs.6000 for 30 years. Every withdrawal of Rs.20000 made annually is tax free. You keep earning interest on your 'real' deposit of Rs.100000 for 30 years.
Total estimated interest earned in 30 years - Rs.750000
Total Tax saved in 30 years - Rs.180000
Balance withdrawable on maturity Rs.850000
All against your total modest initial deposit of Rs.100000 in the first four years.
These calculations are easy to verify using an excel sheet.
Scenario two:
Here the idea is to use PPF as a tool to build wealth. In the above example, what happens if you deposit Rs.20000 every year, but don't withdraw the eligible amount.
Total estimated interest earned in 30 years - Rs.1950000
Total tax saved in 30 years - Rs.180000 (same as above, since 'deposits' are same)
Balance withdrawable on maturity - Rs.2550000 (Remember the 'power of compounding'? Scroll this page for an earlier article)
Total deposits made by you - Rs.600000 (Rs.20000 deposited 30 times in 30 years)
Again these numbers can be verified using excel.
This sounds too good. Is there a catch? Yes, a small one though.
These calculations presume that you will conduct the PPF account for 30 years, which statement indirectly presumes that you are less than 30 years today. If you are between 30 to 45, you can keep the account for 15 or 20 or 25 years and the relative benefit will be less. Ideal for those under 30 today!! But if you can conduct the account for 30 years, you get all these benefits anyway.
So, rush to your bank today.
Disclaimer:
I am not a Certified Financial Planner. You need to consult one before investing.
Best wishes!
Madhusudan
I presume, the scenario 1, allows you to avail the same tax benefit, utilizing the withdrawal rule for the preceding third year balance. Avoiding making new deposits post the 4th year. For those who have exhausted their 80C limits, the pure compounding needs to be considered. Am I correct Sir.
ReplyDeleteScenario 1 is apt for people who are looking to save tax.
ReplyDeleteBut Scenario 2 would be better for people who are already having their 80C limits covered by other means. In my case the interest which I pay towards my eduction loan takes care of my 80C. But still I make a point to put in around 15000 every year in PPF, which acts like a savings for the future. Hope my strategy is right.
What you have said Viplav is abosolutely correct. Whether you need tax benefit or not, compounding will still work. Like if you deposit Rs one lac on day one, after 27 years it will be about Rs eight lacs, since by the 'Rule of 72', every 9 years the money will double!. Thanks for writing here.
ReplyDeleteNitesh, your strategy is perfect. Remember, the earlier you start, the earlier you will complete 15 / 20/ 25 years of the account. Since you are depositing 15000 now, after 5 years you will be able to withdraw and redeposit if you wish. After your educational loan is over, PPF benefits can be increased! Keep it up.
ReplyDeleteDear Sir, An excellent article that also answers my previous queries. Looking forward to your next blog post.
ReplyDeleteIt would be nice to know of ideas, on investing for the 'handicap/challenged'. Many of these people require support beyond the career/life spans of their supporters Or have shorter/challenging work lives. This could be for the physically handicap and the mentally challenged.
ReplyDelete