At the time of filing income tax returns, many taxpayers receive a rude shock in the form of a large self-assessment tax demand. This typically arises from interest earned on fixed deposits, which is classified under “Income from Other Sources.”
Since this income is often not accounted for in advance, individuals not only end up paying self-assessment tax at the time of filing but also face penalties for late payment. Under Section 234C of the Income Tax Act, if a taxpayer misses or underpays any installment of advance tax (due on June 15, September 15, December 15, and March 15), interest at 1% per month is levied on the shortfall. Unfortunately, many become aware of this only when filing returns, by which time interest and penalties have already accumulated.
This problem largely stems from a lack of planning. Fixed deposit interest is predictable in nature, which makes it easier to estimate annual taxable income in advance. With some foresight, taxpayers in higher brackets—say 30%—can take steps to reduce their overall liability. Some options include:
1. Investing in the name of senior citizen parents
Investing in fixed deposits in the name of senior citizen parents is a tax-efficient strategy. The clubbing provision does not apply here (unlike in the case of spouse or minor children), and parents often fall in lower or nil tax brackets. This allows the family as a whole to reduce the tax outgo.
2. Investing in debt mutual funds
Debt mutual funds, particularly liquid or ultra short term funds, provide greater flexibility compared to fixed deposits. While capital gains from these funds are taxed as per the investor’s slab (similar to FD interest), no TDS is deducted, and tax is payable only upon redemption. This deferral enhances compounding. Moreover, investors can redeem only the required portion, thereby paying tax only on realized gains.
Conclusion
Fixed deposits continue to be a preferred choice for emergencies or short-term goals. However, keeping track of the interest expected during the financial year helps taxpayers anticipate their advance tax obligations. With better planning and the use of alternative instruments, individuals can avoid unnecessary tax burdens and penalties.