budget 2013

My interest in budget is only to know the tax outgo for the next year. There is nothing that changes income tax for me this year. The 2000credit for <5L income and the 1lakh one time exemption on first home loan of below 25lakhs in not applicable for me or many of my friends.
There are some indirect taxes which make eating out costly and buying phones and some goods costly. Doesn't affect me much.

Why only term insurance make sense

There are so many reasons why endowment policies and ULIPs don't make a good financial investment decision. Mainly if you browse the net for an hour or two, you would come across reasons like:

• Keep insurance and investment separate 
• They under perform market
• Keep it simple

Actually most of the above are not important points in my opinion. If some body is happy with 5% returns LIC gives, let them be happy. Many people anyway don't buy insurance. If LIC can arm twist govt and come up a product where there is no insurance and the mature value is tax free and still give only 5% returns, many of these guys will buy that thinking they are saving maturity charges.

For financially savvy guys it is altogether different matter. But theoretically at least ULIPs can match term insurance + investment in MF options if the policy runs through its term. of course practically an average ULIP NAV is lagging an average MF NAV. But theoretically ULIPs are like separating insurance and investment and they are very transparent in terms of the charges.

So ideally you should not be that bad off if you are investing in ULIPs (especially the new ones where charges came down quite a bit). But there is one reason you find which makes only the term insurance a viable option. 

• Under insurance

You will be terribly under insured. Say you need a 4 crores cover. Assuming ULIPs give 10 to 20 times the annual premium as cover, you will need to pay 20Lakhs to 40Lakhs per annum as premium. A term cover will need 40000 per annum. The later is manageable but the former is not. ULIPs stop being good investment vehicles once the cover to premium ratio increases beyond a point. So under insurance is the main reason for making a case for term insurance. But again in a country where people think they don't need insurance  under insurance is not really an issue.

Calculation of Capital Gains Tax on Foreign stocks

In http://kaipathoughts.blogspot.com/2013/02/rsu-stock-options-and-spp-taxation.html I exlpored the taxation for RSUs and other stock benefits given by employees. For Indian stocks most of the calculattions are simple. but many of us work for MNCs where stocks are valued on foreign currency and traded in foreign exchanges. The tax treatment of these gains will be like those shares for which STT is not paid. But the value of transactions calculation is not straight forward.

The calculation of gain needs to be computed in the foreign currency before convering to INR. The gains thus computed needs to be converted to INR based on the exchange rate published by SBI/RBI on the last day of the preceding month of the sale transaction. For e.g., if the purchase price of stock is $10000 and sale price is $12000, the capital gain is $2000 and say the sahres were sold in January 2013.. This $2000 needs to be converted to INR based on the exchange rate published for last day of December 2012. Note that this may result in different income from the actual income. Following table captures the situation where the actual income is different from the taxable income due to currency fluctuations.

 

No of Shares	Sell Date	Cost per share in USD	Exchange  Rate	Sell Date	Cost per share in USD	Exchange Rate on Last day of preceding month	Exchange  Rate	Taxable gain	Actual gain	gain type
10	05-Jan-11	10	50	05-Mar-11	12	55	60	1100	2200	ST
10	05-Jan-11	10	50	05-Mar-12	12	55	60	1100	2200	LT
10	05-Jan-11	10	50	05-Mar-11	12	45	40	900	-200	ST
10	05-Jan-11	10	50	05-Mar-12	12	45	40	900	-200	LT

RSU, Stock Options and SPP taxation

In India any stocks given to employees are treated as perks and taxed as such. While selling you incur capital gains taxes. Generally the tax for perks are taken care of by employer and the capital gains tax by employee. Here are the way the taxes need to be computed.

You get stocks from employer in generally 3 ways.
RSU Stocks are alloted to you with a vesting schedule. As and when the vesting date approaches you get full stocks. Here the market rate on the day of vesting will be treated as the perk given to you by the company. For e.g., if you get 100 shares at Rs10 per share, your perquisite is Rs1000. Company will pay tax on this Rs1000 depending on your tax slab. Generally most companies recover this by selling a portion of your shares in the market. If the tax you need to pay is Rs300, the company might sell 30 shares and give you 70 shares. For those 70 shares your cost of acquisiton will be Rs10. For the 30 shares that were sold, there might be capital gain consideration. If 30 shares are sold at Rs11 due to gain in the market by the time the sale is initiated, you have a capital gain of Rs30. This is short term capital gain as the period of acqisition starts from the day of vesting. If the company recoversthe tax from your salary, then you will get all 100 shares and the cost of acqisition will be Rs10 per share.

Options They work similar to RSUs but generally you need to pay the option price for owning the shares. Say if you are granted 1000 shares at an option price of Rs5, there will be a fixed duration in which you can exercise your option. If the price reaches Rs15 and you decide to exercise, You have to pay Rs5000 to get those 1000 shares. Since the actual value is Rs15000, the difference is treated as perquisite and tax will be paid by employer in a way similar to RSUs explained above. So you will have few shares given to you and few shares sold to cover tax. You will have capital gains consideration for the shares that are sold. For all the shares the cost of acquisition will be Rs15 (the market price). If the tax is recovered from salary you will be given all the shares and capital gains consideration will be there only when you sell the shares. An important note here is the taxes are deducted only when you exercise the option. If you never exercise the option, you never receive any shares and pay any tax.

ESPP Purchase plans work by collecting some money from employees and alloting shares at a fixed time during a year. generally these shares are given at a discount to market price. This discount is treated as perquisite and company pays tax over it. If the company recovers the tax from you, it will be similar to the way as explained for RSU and Options.

Important thing to remember is that the cost of acquistion is always the market price which will be notified by the company while alloting the shares to you. If the company sells few shares to recover tax, there will be short term capital gains considerations for those stocks that were sold. there might even be capital losses which you can use to offset any other capital gains you may have.

Once you have those shares in your hands, the treatment will be like any shares. When you sell, if you pay STT, the short term capital gains will be taxed at 15% (in FY 2012-13 when this was written) and at 0% tax for long term capital gains. If you don't pay STT (for foreign shares and off market transactions), STCG will be added to the salary and taxed as such and LTCG will be taxed either at 10% or at 20% after indexation applied.

For foreign stocks, the cost of acquisiton and sale amounts need to be computed in a specific way which I will address in next post.

EPF passbook updation

It is good that now we can see our EPF passbooks on line at http://members.epfoservices.in/
But is the passbook going to be upto date every month? I see that the pass book is not updated with latest contributions from my employer after I accessed it for the first time.

Types of Spending

I think spending can be categorized as

• Essential
• Improving Quality of Life
• Entertainment
• Ego/Showing Off

Essential:  Food, Clothes, Living Space, Education etc

Improving Quality of Life:  These expenditures can be of type enhancing the spending above it (Essentials) or the type covering the basics of spending below it (Entertainment). Eating Sonamasuri rice enhances food taste but would you eat basmati rice every day? Having a car is nice but which car? Vacation but how often and to where? You see, there are no questions for essential expenditure. But now the expenditure planning needs answering questions, deciding what you can afford and what you need. Generally expenditure in this segmentcan be avoided but makes life difficult. You need to strike a balance between your networth and what you spend here.

Entertainment: This expenditure also involves both categories above and below it. If you or any of your dependants are fans of music, buying a good music player and speakers can be part of either improving quality of life or entertainment. How much you spend on that will decide which category you want to keep it in. Having a basic phone is improving quality of life. Having a smart phone which can do everything and you don't use those features is entertainment. Having the higher end of a smart phone when your real requirement is talking or texting is showing off. Buying jewellary is entertainment. Buying some thing which you can't afford but must buy as your neighbour or relative has it is showing off.

Ego/Showing Off: In your inner mind you know this category even if you try to rationalize the expense. Going for a vacation taking a loan or worth 3L when your networth is 10L is showing off. This category can be strictly avoided. There are some exceptions on making networth to expenditure comparisons. If you are starting in your career, you may be starting with zero networth but if you are highly qualified your potential networth might be high like say for a doctor. So you may go for a big vacation but even there, spending on a loan should be absolute no no.

All these categories are subjective. I think a tata nano is entertainment where as some body else might think Honda City is improving quality of life (I am sorry no car can be essential but there is nothing wrong is spending to improve quality of life). May be it will help to keep tabs on these categories individually. Like spending not more than 5% of your cash flow in showing off, 10% on entertainment and 25% on essentials and improving quality of life. Unfortunately the essentials cost very less than the second category and so on with showing off costing the most.

Good vs Bad investment

In http://kaipathoughts.blogspot.com/2013/02/the-financial-mistakes-i-did.html I have talked about the mistakes I did. Due to which I generally don't criticise any body doing anything with their money especially investment vise.
There is no good or bad investment. It is just probability of being good. Direct investment in stocks does the best follwed by equity mutual funds followed by debt funds and savings. This is what many will preach. But the stock you invested in might lose entire capital and somebody keeping money in savings bank might be earning a compound 4% interest on his money. It is just that the probability of a well researched stock beating any other class is significant so it is worth taking the risk with some part of your money. So when I see some body investing in an endowment policy, I see some body earning 4, 5 or 6% on a long term. Yes he will get more if he invests in term insurance + FD but such person will never buy a term insurnace. So some insurance is better than no insurance. Just that he will be paying a steep price for the insurance.
Mostly anything beats the default strategyif the default is keeping the money in savings account which was the case for me for long time. Some action is better than no action and the action will move the person towards thinking about better investments.