|Scheme Name||AUM(Cr.)||1y %||3y %||5y %||Expense Ratio(%)|
|ICICI Pru Long Term Wealth Enhancement Fund (G)||35.76||15.63||16.87||0||1.37|
|Quant Tax Plan-(G)||2126.6||15.22||38.66||0||1.97|
|HDFC Tax Saver Fund (G)||10065.81||14.4||17.88||0||1.94|
|Sundaram LT Tax Advantage Fund-Sr.III (G)||31.77||14.39||30.26||0||1.38|
|Sundaram LT Tax Advantage Fund-Sr.IV (G)||20.96||13.43||30.02||0||1.42|
Equity Linked Saving Scheme (ELSS) funds are equity mutual funds with added tax benefit thrown in. The idea of ELSS was to encourage the habit of long term equity investing in retail investors. ELSS funds have a compulsory lock in period of 3 years which is due to the added tax benefit that this product offers. ELSS gives you tax benefit on the amount invested. For example, if you are in the 30% tax bracket and you invest Rs150,000 in an ELSS fund then Rs45,000 (30% of 1.50 lakhs) will be reduced from your total tax. Of course, this is a blanket limit which also includes a plethora of other investments like PPF, NSC, 5-year bank / post office FDs, insurance premiums, tuition fees etc. Tax benefits under Section 80C for ELSS are distinct from the tax benefits on dividend and capital gains. Where ELSS scores over other equity funds are in the special tax exemption under Section 80C up to an investment of Rs 1.50 lakhs each year. Other benefits on tax on dividends and capital gains continue.
ELSS funds combine three things to benefit investors. They combine the long term wealth creation potential of equities, the tax exemptions under Section 80C and the longer term approach facilitated by the mandatory 3 year lock in period. Section 80C is a special exemption given to tax payers up to a limit of Rs150,000 per annum. Each year you can buy ELSS funds and get exemptions up to Rs1.50 lakhs on it. Also, you can invest in ELSS either in lump sum or as SIP and both are eligible for tax exemption as long as the investment is done in the same fiscal year. This section, however, includes a lot of other items. Section 80C includes your payment of LIC premium, contribution to provident fund, payment of tuition fees for your children, principal repayment on your home loan and long term bank FDs among other things. One of the key inclusions in Section 80C is the Equity Linked Savings Scheme (ELSS). This is like any other equity mutual fund with the only difference being that there is a compulsory lock-in of 3 years from the date of the investment. These mutual fund units cannot be redeemed before the completion of 3 years. What matters here is that the tax exemption under Section 80C substantially enhances the effective post-tax yield on an ELSS as compared to a normal equity fund.
It needs to be noted at the outset that ELSS funds are essentially equity funds. Within the gamut of equities, ELSS funds can take different forms. Here are few of them.
As a matter of investment philosophy, try to look for ELSS funds that have a diversified portfolio or even a multi-cap portfolio, so that you don’t become a victim of concentration risk in your portfolio. After all, mutual funds are all about diversification and therefore a diversified fund would serve you best.
ELSS funds are tax saving funds so it can be for anyone looking to save tax. Any tax assessee can use the ELSS tax exemption within the outer limit of Rs1.50 lakhs prescribed by Section 80C of the Income Tax Act. The ELSS funds will be a good investment choice for the following category investors.
ELSS funds are essentially equity so they present a good means of saving tax as well as creating wealth in the long run. In fact, the discipline of regular saving and putting money in equities is a big advantage that ELSS funds offer. Here are 3 principal reasons why you should invest in ELSS funds
ELSS fund managers can afford to take a truly long term view
One of the key advantages that ELSS offers is the discipline of regular saving and equity investment. However, there is an additional advantage that is often overlooked. Fund managers have the tendency to churn portfolios in a quest to book profits to keep the MTM position as favourable as possible. ELSS is slightly different. Since investors are locked in for 3 years the fund manager is assured of the longevity of the investment. This induces the fund manager to take a long-term view of investing. It tends to benefit investors in the long run since the longer term approach means that unnecessary churn is reduced and the costs are lower.
You can get the benefit of rupee cost averaging through regular ELSS Fund SIPs
Ideally, even an ELSS should be done through the SIP route. It has a few distinct advantages. It helps you to match your outflows with your inflows and instills a discipline to start planning taxes in a systematic manner rather than bunching at the end of the year. You have the added benefit of rupee cost averaging; which implies that you get better value when the NAV goes up and more units when the NAV goes down. There is another advantage in adopting the SIP route. The 3-year lock in commences from the date of investment. Hence an ELSS SIP is better than bunching your ELSS investment at the end of the year. You don’t need to go running around in search of the corpus and your ELSS gets freed up each month as each SIP completes 3 years of lock in. That gives you more flexibility.
ELSS can substantially enhance your effective yield on investments (post-tax)
To understand this benefit of effectively yield, let us look at two investors who invest in two funds with the same portfolio. The only difference is that the second fund is an ELSS fund.
|Investor A (Equity Fund)||Amount||Investor B ( ELSS Fund)||Amount|
|Investment amount||100,000||Investment amount||100,000|
|Value at the end of 3 years||175,000||Value at the end of 3 years||175,000|
|Profit in INR||75,000||Profit in INR||75,000|
|Total Returns over 3 years||75%||Total Returns over 3 years||75%|
|CAGR Returns||20.6%||CAGR Returns||20.6%|
|Effective Returns after considering Section 80C benefits|
|Exemption u/s 80C||-||Exemption u/s 80C||30,000|
|Effective Investment in T1||100,000||Effective Investment in T1||70,000|
|Revised CAGR Returns after considering Section 80C||20.6%||Revised CAGR Returns after considering Section 80C||35.8%|
The above table captures the difference that the Section 80C rebate offers to Investor B. Since, Investor B gets a 30% tax rebate (we have ignored cess and surcharge for simplicity) in the year of investment it reduces Investor B’s outlay to Rs70,000 (net of exemption). This makes a massive difference to the CAGR returns over 3 years, although both the funds have performed similarly in NAV terms due to their mirror portfolios. That is the power that ELSS offers. Effective yields go up sharply after considering tax shields.
To begin with all the typical considerations of any equity fund like returns, risk profile, portfolio quality, consistency of returns etc will have to be considered. In addition, you need to take four more key decisions when it comes to investing in ELSS funds
The tax benefit on ELSS is covered by Section 80C of the Income Tax Act. That means ELSS funds are one of the assets that are eligible to get an exemption to the tune of Rs1.50 lakhs each financial year. Such exemption can be directly deducted from the taxable income of the person. How much tax you save will largely depend on a mix of various factors at play. Let us look at some of these key factors.
ELSS funds bring some unique benefits along with it. Tax exemption under Section 80C is the most obvious of them. But there are quite a few more critical benefits that you need to be aware of.
When it comes to Section 80C, ELSS is just one of the options available to you. There are other options like PPF, contributory PF, life insurance premium, ULIPs, long term bank FDs, tuition fee payments, home loan principal etc. While one must be driven by the overall asset allocation in deciding the extent of ELSS exposure, the ELSS option has some distinct advantages over the other options. Here are some of the key advantages in opting for an ELSS for your Section 80C.
An ELSS offers some unique advantages like shorter lock-in period, better wealth creation and a better fit to long term financial goals.
An investor looking to save tax via ELSS funds can allocate funds in a variety of ways. If you have a lump sum amount with you, then you can invest in bulk or you can also go to your AMC and register a systematic investment plan (SIP) on the ELSS fund. The 3-year lock in period for these SIPs will kick in from the date of the SIP investment. However, given a choice, it is recommended to adopt a SIP approach to investing in ELSS funds. Here is why…
That is actually a very good idea. Why do we invest in mutual funds? The reason is to get the benefit of diversified risk management and higher comparable returns over a period of time. As a first time investor, you may not have the expertise to invest in direct equities. Hence mutual funds may be the right way to start. Even within mutual funds, equity funds may be the right choice as they combine the ability to generate returns in the long run. But what will be your trigger for investing in equity funds? One such trigger can be tax planning.
When we start earning income, we are authorized and obligated to save our taxes. ELSS funds offer tax exemption under Section 80C of the Income Tax Act to the extent of an outer limit of Rs1.50 lakhs per annum. Here you can hit two birds with one stone. Use ELSS funds as your entry point to get into equity funds. The compulsory lock in of 3 years will keep you away from the temptation of exiting your equity fund early. At the same time, once you see the returns on an equity fund, you will have greater conviction to invest in equity funds at a later stage and use that for financial planning.
ELSS funds also have some distinct advantages over other classes of instruments that are eligible for Section 80C. For example, ELSS is the only instrument among Section 80C instruments that is a long term wealth creator. It fits in ideally when you are young and your risk appetite and risk capacity are quite high. Also, you need to create wealth in the long term and the earlier you start the better it is. Also, the lock in period is just 3 years and so you can churn your money more efficiently. That is surely a good starting point for investors.
One needs to understand that earnings from ELSS funds are defined in a variety of ways. There is dividend income, there are short term gains and then there are long term gains. Of course, short term gains are not applicable to ELSS since these funds have a mandatory lock in period of 3 years and any holding in equity funds of more than 1 year is necessarily classified as LTCG. So, let us look at dividends, capital gains and redemption reinvestments and the tax implications.
The advantage of an ELSS fund is that the lock in period is the lowest among the tax saving instruments under Section 80C of the Income Tax Act. An ELSS fund has a mandatory lock in period of 3 years from the date of investment. That means, if the SIP approach is adopted for an ELSS , then the lock in will commence from the date of the SIP for each installment and the lock in will be removed exactly 3 years after that. In comparison, long term bank FDs has a lock in period of 5 years while PPF has a lock in of 7 years. Effectively, by the time you can churn your PPF money twice you can churn the ELSS money five times leading to substantially levels of tax breaks. Normally, equity funds have an exit load for exiting before 1 year. However, since the ELSS funds have a mandatory lock in of 3 years, they are normally not subject to any exit load.