Tax-saving investments? It’s what you do in the closing
quarter of a financial year.
That’s how most of us look at the topic, typically.
And that’s exactly how we shouldn’t be looking at it. For,
tax saving should ideally be a year-round affair, in order
to avoid the hassles closer to the fiscal end and the
haphazardness thereof.
Equity linked savings scheme (ELSS) are a good option to
this end. Moreover, investing in ELSS through the systematic
investment plan (SIP) route can also enable you to create
wealth over the long term.
So, let us explore ELSS in greater detail.
Why should tax-saving be year-round effort?
Investing your hard-earned money throughout the year serves
a dual purpose — reducing tax liabilities and creating
wealth. Below are some of the factors that one needs to keep
in mind for investing through the year:
-
Discipline:
Investors need to plan their tax saving by investing
regularly. It helps them to set aside money regularly
which, in turn, inculcates the saving habit and a
sense of financial discipline.
-
Better cash flow management:
Investing a significant amount in a lump sum always
entails the risk of losing the big amount when the
market declines, or worse, crashes. Instead, investing
over time helps manage cash flow more efficiently
since only a part of your money faces market
volatility.
-
Planned investments:
Planning to invest from the start of the year helps
investors assess the meaning and direction of their
financial decisions. Planned investments can help
minimize taxes and analyze short- and long-term
effects on financial goals.
-
Long-term approach:
Investment for a long duration can help you create a
financial cushion for old age/retirement. Many people
start investing with an aim to save taxes but also end
up creating wealth over the long term.
ELSS and its benefits
An ELSS are diversified equity funds. The funds are invested
across stocks with varied market capitalisation, sectors,
and themes. It aims to maximise capital appreciation in the
long term. According to the Securities and Exchange Board of
India guidelines, these funds can invest minimum 80% of
assets in equity and related instruments (in accordance with
Equity Linked Saving Scheme, 2005 notified by Ministry of
Finance).
It can have some exposure to fixed income securities as
well.
Advantages of ELSS investing
-
The fund offers one of the lowest lock-in period, of
three years, among tax-savings avenues under Section
80C of the Income Tax Act, 1961
-
It is a tax-saving scheme that predominantly invests
in equities and equity related instruments and is
eligible for investment up to Rs 1.5 lakh for tax
deductions under Section 80C of the Income Tax Act,
1961
A potential wealth creator
Besides being a tax-saving instrument, investment in ELSS
can also help generate wealth over time. After the
lock-in-period of three years, investors have a choice of
continuing their investment to accumulate wealth. Moreover,
since ELSS funds are equity-oriented, investing in equity
can help investors generate wealth through the power of
compounding and its potential to help deliver returns that
are inflation-adjusted.
Mostly, the returns for investment instruments eligible for
tax benefits are fixed. However, investment in ELSS is
market-linked. Since ELSS funds invest in equity-linked
instruments, a long-term equity investment has the potential
to provide better returns. Moreover, the returns are further
boosted by the savings generated through tax benefits.
The below chart shows the performance of ELSS funds
vis-à-vis the benchmark. The analysis shows the funds have
outperformed the benchmark Nifty 50 and Nifty 500 in most of
the periods analysed.
Investing in ELSS through SIPs
ELSS investing provides investors the option to go either
for a lumpsum or SIP investment. While lumpsum investment
requires prior market knowledge and has risk associated with
market volatility, investors can opt for SIPs to help
mitigate volatility and seek to earn reasonable returns r,
with minimum corpus.
SIP investment not only instils a regular investment habit
but also aligns with the year-round investing habit. This
further helps investments to be averaged out (rupee cost
averaging) during market cycles and long-term investing
harnesses the power of compounding.
However, it should be noted that since the ELSS has a
three-year lock-in period, the SIP instalments will also be
locked in for three years from the allotment date, to be
eligible for the tax benefit.
ELSS versus other traditional tax saving options
Note: *SBI tax-saving FD interest rate for 5 years effective
from November 10, 2021
The above table is shown for illustrative and understanding
purposes only. Investments in mutual funds relatively carry
higher risk and there are no assurance of returns /
protection of capital in mutual fund investments.
Summing up
Investing in a tax-saving instrument such as ELSS from the
beginning of the fiscal not only helps reduce tax
liabilities but also can help create wealth in the long
term. Further, investing in ELSS through SIP instills a
discipline in investment practices and can protect investors
from market cycles.
However, since ELSS investing involves market-linked
returns, it has relatively high-risk exposure. Also, the
mandatory lock-in period of three years does not allow
investors to redeem their holdings prior to the completion
of the period. Therefore, investors need to consider their
own risk-return profile and investment horizon before
investing.
Disclaimer:
Mutual Fund investments are subject to market risks, read
all scheme related documents carefully.
An investor education and awareness initiative by SBI Mutual
Fund
Investors should deal only with registered Mutual Funds,
details of which can be verified on the SEBI website
(https://www.sebi.gov.in) under ‘Intermediaries/Market
Infrastructure Institutions’.
Please refer to website of mutual funds for process for
completing one-time KYC (Know Your Customer) including
process for change in address, phone number, bank details,
etc.
Investors may lodge complaints on www.scores.gov.in against
registered intermediaries if they are unsatisfied with their
responses. SCORES facilitates you to lodge your complaint
online with SEBI and subsequently view its status.
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