Should you borrow for last-minute tax saving?

Traditionally, loans are advised only for creating an asset, such as buying a house or investing in a business or higher education. But in the recent past, consumption-related loans have seen good growth with people resorting to debt for buying cars, going on holidays, shopping, etc.

The number of people borrowing for investing in tax-saving instruments is also on the rise, especially between December and March, shows data from fintech companies. Salaried individuals, even those in higher income brackets, are unable to save enough to meet tax saving investments by the end of the financial year. It helps in saving taxes but is not a prudent practice.

Medical emergencies and repayment of equated monthly instalments (EMIs) are other common reasons for borrowing. Again, these are needs that can be met by having health insurance and ensuring that your loan repayment can be met by your regular income. DNA Money spoke with experts to understand what borrowers should do.

Borrowing for investing in tax-saving instruments

Last month, IndiaLends, an online lending marketplace that offers unsecured personal loans to salaried and self-employed individuals, conducted a survey of borrowers who visited their website. Responses showed that the increase in personal loan applications was mainly for investing in tax-saving instruments under Section 80C of the Income Tax Act. The data collected was from a sample size of 20,000 personal loan applications.

It showed that there was a surge in personal loan applications by 31% during this period, with ticket sizes ranging from Rs 10,000 to Rs 1.5 lakh.

"If an individual takes a personal loan of Rs 1.5 lakh at a rate of 12% for one year, the total interest payable comes to Rs 9,928. This means an individual can save at least Rs 21,272 out of the total Rs 31,200 even after paying interest. Even in a situation where the individual has a poor credit score and gets a personal loan at 18%, he can still save Rs 16,176," says IndiaLends founder Gaurav Chopra.

Most salaried individuals do a full tax declaration at the beginning of the year, on the basis of which they pay lesser tax. But by the end of the year (January to March), if you don't have enough cash flow to make those investments, then you have to either pay additional tax or look for other ways to bridge the gap, such as borrowing from friends and family.

What one should do

It is definitely not advisable to leave your tax planning for the last minute. Chopra advises starting a systematic investment plan in a tax-saving mutual fund at the beginning of the year to avoid the burden of investing the entire Rs 1.5 lakh at one go.

"The ideal way is to plan your taxes on a month-on-month basis, from your salary. But for those who don't, or can't, for whatever reason, the question arises whether you should pay additional tax or take a loan. You have to do the calculations and compare the benefits of paying additional tax and the interest on the loan. Look at what rate you are getting the loan," Chopra adds.

Another drawback of investing at the last minute is that the cost could eat into your returns, points out Anil Rego, founder and CEO, Right Horizons. "Typically, from December to March, stock markets tend to peak. So if you invest in ELSS at that time, you may end up paying a higher price, even if you do save tax,'' he says.

High earners should include their deduction for Employee Provident Fund as part of the tax-saving instruments, points out Suresh Sadagopan, founder, Ladder7 Financial Advisories. "Most would also have life insurance, which, too, is part of the 80C deduction. Despite this, if they have to borrow to invest, it is gross mismanagement of finances,'' he adds.

Loans for medical purposes, paying EMIs

Two other top reasons that borrowers, especially youngsters, take personal loans for are medical expenses and repaying existing loans. According to findings by CASHe, an app that offers instant small loans, 31% of people borrow money for medical purposes, followed by 23% for EMI financing and 14% for loan repayment.

Those who borrow for medical purposes are those who either don't have medical insurance or if they do, it is insufficient. "Most salaried individuals today have some form of insurance cover provided by their employer. But the amount may be less or it may not cover parents,'' he says.

Even if they have insurance for the hospitalisation, people may need to borrow for the hospital deposit at the time of admission or at the time of discharge if the insurance amount proves insufficient.

Individuals also borrow for repaying their existing loans by either shifting to a loan with lower interest rates or longer repayment schedule, or it could be to arrange money for the EMI on their home or car loan, in case they have a cash flow problem.

"These are short-term loans which banks and non-banking finance companies don't give. And most borrowers are youngsters who have just started working. They may not have high credit scores and traditional lenders do not lend to such individuals,'' Kumar says.

What one should do

Today, medical expense is one of the highest financial risks for an individual as it could come suddenly and have a large impact, says Rego.

"One way to avoid it is to take appropriate medical cover. Individuals should also have some sort of emergency fund, where you invest in liquid funds for emergencies,'' he adds.

Unmanageable EMIs are a result of high aspirations, points out Sadagopan. "Even with two incomes, it is a challenge to own a house in a metro city today. And individuals as young as 25 years want to buy cars. But you have to prioritise what you want to buy and spend only from what you save,'' he adds.

EARLIER THE BETTER

• Do not leave your tax planning for the last minute. Start a systematic investment plan in a tax-saving mutual fund at the beginning of the year
   
• Typically, from December to March, stock markets peak. So if you invest in ELSS at that time, you may end up paying a higher price, even if you do save tax