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Most entrepreneurs take great care in setting up and running their businesses. But many of them fail to pay attention to tax and investment planning. There are some options by which self-employed professionals can invest and save tax. In fact, they have more options than salaried employees.
Let us take a look at some of the ways how those running their own business, even if it is being conducted in their own homes, can save tax.
Start-up expenses - These expenses (that it, any expense that occurs prior to the commencement of business / new unit) can be categorised as 'preliminary expenses' and deducted from the taxable income under Section 35D. Currently, the law is that this expense head must be equally deducted for tax purposes over a period of five years, and not at one go as a lumpsum.
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Utility expenses - Entrepreneurs who use their vehicles and phones for business purposes can show these as business expenses. Expenses for vehicles, phones, drivers, tolls, parking, etc. can be claimed as business expenses if used for a legitimate business purpose. Other expenses such as electricity costs can be claimed if one is working from a home office. These can reduce the tax burden of a start-up.
Medical insurance - Any medical insurance premium (to the tune of Rs 15,000) can be claimed by the entrepreneur for tax deductions. This is deductible under Section 80D, and the insurance can be for the entrepreneur's spouse, dependent children, or dependent parents. But remember that this will not be applicable for those whom the start-up is a second job, and they hold a full time job where their employer gives them medical insurance.
Other expenses - All legitimate business expenses should be claimed, and ideally the bills should be in the name of the company to avoid any confusion at a later date. For example, hotel, flight and food expenses during a business trip, purchase of a new computer for work, security guard charges for a home office, etc.
Depreciation - This is one of the best methods for entrepreneurs to save tax. All capital expenses (for business purposes) should be done in the name of the company; for example a car, computers, mobile phones, furniture, etc. can be bought in the company's name. The company can then claim depreciation for these - at differing rates depending on the asset purchased.
Office rental - Many entrepreneurs start their companies either at home or at a relative's property to reduce the rent to be paid. However, if the company can pay rent to the owner of the property (either the entrepreneur, relative, or friend), this will be counted as expenses and can reduce the tax liability. In the event that the landlord has no other source of income, they may not even have a tax liability on the rental income, depending on the size of rent.
Hiring family members - One of the ways to reduce tax burden is to hire members of the family and pay them a salary. If this family member is not earning any other income, the company can pay them even Rs 2 lakh per year (with the current tax slab) without any tax outgo for this relative. Since this is an expense, it can be set off from the taxable income of the company, thereby, reducing the total outgo for the company. This also benefits the entrepreneur by having trusted people around to help grow the business.
Investment for entrepreneurs
Entrepreneurs can benefit from these avenues to save a substantial amount in taxes, but what about investments? There are plenty of investment options to choose from. One can decide the best investment depending on the structure of the business.
For instance, if it is a proprietorship, then the PAN number of the company and the individual are the same, hence, all the investments are considered to be made from one entity. On the other hand, if the company is running as a partnership or private limited company, then it will have its own PAN card.
The entrepreneur should ideally plan to invest money both to save for retirement as well as to grow cash reserve for the company. In order to do the latter, it is advisable to invest money in the company's name, from any surplus cash available with the company, into either liquid funds, debt funds, or fixed deposits. A safer investment option is advisable, since one cannot predict the cash requirement of a new and growing business.
In order to plan for one's investments while self-employed, ideally one should initially invest 40 per cent of one's wealth in debt instruments (such as gilt funds, liquid funds, etc.) and the remaining in equity funds. As the company grows and one's personal situation has stabilised, the investment in debt can be lowered to 20 per cent of the portfolio, with the remaining being invested in equities.
The author is Founder & CEO, Right Horizons
