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| Simple methods of filing returns |
| Arnav Pandya / Mumbai Mar 08, 2009, 00:03 IST |
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Most investors look at cumulative deposits, such as bank fixed deposits (FDs) as a core part of their investment portfolio. Through this route, investors can accumulate money over time.
However, for investors who opt for more schemes that are for more than a year, there is an important tax angle that they need to look at. The interest earnings on these deposits are taxable, if they cross the basic exemption limit. That is why many senior citizens, who have the highest limit for Rs 2.25 lakh, prefer to opt for this route to generate income.
The taxation of the income received from FDs has to be in-line with the method of accounting that is regularly employed. This can be either the cash method that accounts for an income when the amount is actually received. The other method is considering some part of the accrual, even though the amount has not been received.
The latter option takes into account the interest earning for the year, in spite of the fact that the investor has still not received any income. And the total amount will be paid to him by the bank only on maturity of the scheme.
Typically, banks come up with different timelines for fixed deposits, based on their need for funds. As a result, investors often invest in a 450-day or a 730-day deposit.
In this situation, the investor would find the process easier, if they adopt the accrual method for accounting for interest income.
Let us understand this with an example. Say an investor puts Rs 10,000 in a two-year fixed deposit at the rate of 10 per cent a year. After two years, the investor should earn Rs 2,100 on this deposit. That is, his cumulative returns would be Rs 12,100.
If the method of accounting for the deposit is considered, then the entire income of Rs 2,100 will be considered for taxation in the second year for the investor.
The bank, on its part, will follow a different process. It will account for the interest paid every year. So for the first year, there will be an accrued interest of Rs 1,000. Since this is a small amount there is no tax deduction. But for larger amounts, when the interest income exceeds Rs 10,000 (for an investment of over Rs 1 lakh at 10 per cent a year), there is a tax deducted at source (TDS).
The investor, who is earning higher interest income, should approach the bank and obtain the necessary interest certificate. This certificate mentions the interest income that the investor is receiving for the year. And in case, there is a TDS that has been deducted, the certificate will also mention the same.
So an investor also has to go for the mercantile or accrual system of accounting, like the bank. This simplifies the entire process and provides an ease of procedure for the investor.
As far as recording the interest payment goes, the tax authorities will consider it as a part of the ‘income from other sources’. So the amount of tax, if any, will be reduced from the total tax payable.
In other words, there needs to be two adjustments that have to be undertaken and this will then complete the entire tax recording for the investor.
In case there is a tax deduction, using the mercantile system makes the process easier. However, this leads to payment of tax, even though the income has not been received during the year. This is because the TDS will be at a lower rate than the final rate for many people.
The writer is a certified financial planner
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