Saving Tax through Mutual Fund Investments
To invest your hard-earned money wisely, it is important to invest in a tax efficient manner. In the plethora of investment products available today, Equity Linked Savings Schemes (ELSS) of mutual funds offer to make your money grow as well as save tax
What are Equity Linked Savings Schemes?
As the name suggests, ELSS schemes of mutual funds are those that invest their corpus in equity or equity related products. This is in order to give investors the twin benefits of capital appreciation and tax savings. These schemes come with a lock-in period of three years and provide you the opportunity to save tax on a maximum investment amount of ₹1.5 lakhs under section 80C of the Income Tax Act every financial year.
Take for example, Rajesh whose gross annual income is ₹12,00,000. He invests a total of ₹1,50,000 in ELSS schemes. Therefore his taxable income is reduced to ₹10,50,000. Since Rajesh falls under the tax bracket of 30%, he is able to save ₹46,350 (including education cess @2% and higher education cess @ 1%).
ELSS funds come with a growth and dividend option. In the growth option, you receive a lump sum on the expiry of the ELSS scheme, whereas in the dividend option you get the benefit of a regular dividend income.
Advantages of investing in ELSS
- The number one reason why ELSS schemes are very popular is that the returns are completely tax free and you do not have to worry about paying long-term capital gains tax.
- Further, being equity oriented funds, dividends declared under ELSS are tax free
- Compared to other tax savings instruments as well as bank fixed deposits, the lock-in period of ELSS schemes is comparatively smaller and due to equity market exposure, it offers better returns.
- Given the lock-in structure in such schemes, fund managers are less concerned about the outflow that leads to better performance of such schemes.
- SIP or Systematic Investment Plans in ELSS bring in the discipline of investing and take away the risk of timing the markets.
- You need not redeem after 3 years. You can continue in the scheme and benefit from long-term growth.
Disadvantages of ELSS
- The portfolio construction of ELSS schemes is similar to that of any other equity diversified scheme. Therefore they are all exposed to market risks.
- Your investments are locked in for three years.
- Unlike other instruments such as PPF or bank fixed deposits that allow premature withdrawal subject to certain conditions, there are no such benefits in ELSS.
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An ELSS is one of the best tax savings instruments available for investors today. But having said that, they should not be invested in, at the fag end of the financial year in a haste. To invest wisely, one should invest at the beginning of the year through the SIP route as it would yield the true benefits of investing.