I got a call late last night from my sister. Her question: "Where can I invest now to save on tax?" summed up the purpose of the call.

In all the excitement of what to do for Valentine's Day and what to buy her boyfriend, realisation suddenly dawned on her that the financial year was going to end on March 31. And she had better do something fast.

It always pays to do your tax planning at the start of the financial year (April 1). No, I am not being preachy, just practical. Because, if you wait till the end, you are bound to shortchange yourself.

But like they say, better late than never. So, if you identify with my sister, this article is for you.

• What falls under Section 80C

Equity Linked Saving Schemes: Tread carefully

This year, ELSS has been the most sought after tax saving tool.

These are diversified equity mutual funds that give a tax benefit. Diversified equity funds are those that invest in the shares of various companies of various sectors.

Under normal circumstances, I would have heavily recommended this option to her.

She is young (in her early 20s) and has time on her side to ride the ups and downs of the stock market. I always suggested that stocks be part of her overall investment portfolio because they give the best returns over the long term.

Check out the returns.

In 2003, tax planning funds gave an average return of 108.97% while the Sensex rose just 72.89% that year.

In 2004, the Sensex gained just 13.08% while tax planning funds gained a little over 30%.

As on December 26, 2005, the average five-year returns were 28.80% and the three-year returns were 57.08%.

However, this time I was a bit wary. If she invests in the funds now, she will be doing so when the stock market is at a peak. No matter how bullish you are, the Sensex at 10,000 is cause for concern!

This is the time when people should be selling their shares and equity fund units to make a good profit. If she invests at these levels, it may take a long while for the Net Asset Value to reach this level.

No doubt, when you invest in ELSS, you have to lock in your money for at least three years. But who knows if the market will stay high for three years?

My advice to her was to go in for an ELSS only if she was willing to stay in for the long haul and if she was willing to take the risk of a drop in the value of her investment.

If you are willing to, then the funds with a fairly successful long-term performance record are Franklin India Taxshield, HDFC [Get Quote] Long Term Advantage Fund, HDFC Taxsaver, Magnum Taxgain and Prudential ICICI [Get Quote] Tax Plan.

Infrastructure bonds: Avoid

As of now (early February 2006), there are no such bonds available in the market. Even if they were, it is not an investment I would suggest.

Under Section 88, everyone was virtually forced to invest in these bonds. Under the overall cap of Rs 1,00,000, Rs 30,000 was exclusively reserved for these bonds. If you did not invest in the bonds, you lost out.

This is no longer the case. Investment in infrastructure bonds fall under the overall Section 80C limit of Rs 1,00,000 with no separate cap. You have the choice of bypassing it for another investment. Please exercise that choice.

Also, the interest rate was much higher earlier. As interest rates in the economy began to fall, these bonds lost their attractiveness.

Today, these bonds will offer a return of around 5.5% to 6% per annum with a lock-in period from three to seven years. The returns are poor and, at this stage in your life, there is no need to even consider such an avenue.

Moreover, the interest you earn is taxable, making the post-tax return much lower.

Public Provident Fund: A must

I heavily recommend the PPF for a few reasons.

1. At 8% per annum, it gives a better rate of interest than other fixed return investments.

2. Since it is backed by the government, you are assured of total safety.

3. Being a 15-year investment, it is an excellent long-term planning tool (highly recommended for people in their twenties). Since the minimum that you have to put in every year is just Rs 500, it is easy to maintain this investment even over a long period of time.

4. You get a deduction when you invest in PPF; the interest too is tax free.

National Savings Certificate: If you don't want to block the money for too long

Just like PPF, NSC also offers 8% per annum, a deduction under Section 80C and is backed by the government, making it a safe investment.

The difference is that it is of a much shorter duration (six years) and the interest earned is taxed.

• Time to start your tax planning

Making the right choice

Start by deciding where you want to invest your money. Once you do that, you will be able to figure out the right amount for each.

Before you do so, check if you have already availed of some deduction under Section 80C.

1. Check your EPF contribution.

If you are a salaried individual, your employer will provide you with an Employee Provident Fund.

A percentage of your salary is deducted as your contribution to this fund.

Since this is automatically done, you don't need to worry about it. Your contribution to the provident fund is eligible for deduction under Section 80C.

2. If you are repaying a home loan, you will have to deduct the principal amount repaid this financial year to figure out how much you have to invest under Section 80C.

3. If you are paying any premium on a life insurance plan or pension plan, that too is eligible for a deduction. But don't hastily run and get yourself a life cover just to avail of a deduction.

Choosing a pension plan and an insurance plan requires planning (taking into account expenses, income, dependents, future plans and goals) and should not be done in a hurry.

After you figured out the above, you will only have to invest the balance amount. Get moving!

Save Tax, Save a Life