Receiving a promotion or raise in salary is always an exciting time as it is not only a recognition of the efforts taken by you in the last year but also reward in the form of additional money which will come henceforth. Almost immediately we begin planning for the additional funds and gear up for celebration. However the celebration many times is short lived because the money seen on paper may not really reflect on the bank account.
A common philosophy amongst majority salaried people is that they simply divide the cost to company (‘CTC’) by 12 and expect that figure to reflect in their bank account at the end of the month. However, it is not that straight forward. Let us explain a few reasons for why your paycheck may shrink even after you may receive a salary hike.
In life two things are inevitable, death and taxes. Income tax is directly proportionate to the income earned in the year. To put it simply, higher the income higher the tax. Therefore as and when you receive a hike it is bound to attract higher tax meaning the tax deduction will be substantially higher than your last salary.
So let us say if tax deduction per month was Rs. 2000 at 10 Lakhs per month CTC, it will rise at every additional income received post that 10 lakhs. In addition to that in our country, the tax slabs are different at each income stage with a 30% tax rate above income of Rs. 12.5 lakhs per annum. In order to save on tax, it is pertinent to avail of appropriate tax planning measures and save your valuable money.
Provident fund is a mandatory saving tool initiated by the government, wherein the employee and employer have to compulsorily contribute each of their prescribed share to the provident fund authority. The rate of contribution is derived from the amount of the basic pay component. Therefore, as and when your salary increases, your basic pay also rises and thus giving rise to the mandatory contribution amount of the provident fund.
Now when the company describes your salary package as ‘CTC’ that includes the employer’s mandatory contribution as well. Therefore it may seem like the CTC has gotten fat, however, the deduction may make it look a lot thinner.
Rise in expenses
Sometimes in order to gain a financial advantage, we shift cities to accepting newer opportunities. As we shift cities, some of the expenses such as rent, fuel, travelling expenditure or even costly standard of living may eat up all the salary hikes. Add to that the additional rate of income tax on account of a higher salary. Then there is the sudden cost of a rent deposit, packers & movers expense and furniture or fixture purchases.
Before switching jobs instead of thinking of a pay raise one should rather think of how much additional savings he or she can make. Because if you aren’t saving more than your old job, that means your expenses have increased and it may not be worth switching jobs.
The above are major factors in shrinking your paycheck, however, there are ways where you can keep your paycheck healthy, let us check them out.
1. Tax planning is the most essential factor in keeping your paycheck healthy. If you don’t plan your tax, you might as well end up paying more tax than the person earning more than you. The tax could be saved in two ways, one by either investing money or second by claiming an allowable expense. Some of the investment ideas for tax planning are health insurance, public provident fund, ELSS mutual fund or National Pension Scheme.
In case you are planning to buy a house for residential or investment purposes you can save tax up to Rs. 3.5 lakhs. Tax planning should always be considered in consonance with your financial objective. Since you become aware about your pay raise in the first month of the financial year, you possess ample amount of time to plan your investments and save on tax.
2. Wealth is not created by rising pay-checks; it is always created by increased savings and optimum investment. Therefore, as long as your savings are increasing as per your income, financial independence will be just around the corner. Increased savings or investment might hamper your in-hand salary, however, this absolutely does not mean you should be unhappy with your pay raise. Before switching jobs, always understand how much more savings you are going to make instead of learning how much more you are going to earn.
Shrinking pay-check is common amongst millennials who constantly run after increasing their income. Although not a bad idea to increase your income, it is futile if it is not put to proper use. Financial independence can only occur if there is the successful execution of a plan and a healthy paycheck is of paramount importance for the same.
Viral Bhatt is the Founder of Money Mantra - a personal finance solutions firm