If you ask any financial advisor or planner including us, about Tax Saving financial products, the chances are very high that you will be recommended an Equity Linked Savings Scheme (ELSS). There are several reasons for advisors and investors to opt for ELSS over other similar Tax Saving financial products. Let us understand the ELSS meaning & reasons to invest in ELSS.
You know, many products under various sections of the Income Tax Act qualify for Tax Saving rebates. Despite the fact that ELSS is a new category, many of us advise this for tax savings. In this post, we will tell you the reasons why ELSS is the best product for tax saving.
ELSS Meaning
Sec 80C of the Income Tax Act, 1961 comprises of investment avenues like Life Insurance policies, Public Provident Fund (PPF), Equity Linked Savings Scheme (ELSS), etc. Money invested in these instruments not only results in investment savings but also qualifies for tax savings. The limit is 1.5 Lakhs combined for all products.
Reasons for Investing in ELSS Category Mutual Funds
1) Minimum Lock-in. ELSS comes with a three-year lock-in clause. This means an investor investing in an ELSS has to stay invested in the fund for at least three years to claim the full tax benefits.
However, in comparison, PPFs, another tax-saving instrument that could be compared with ELSS, has a lock-in of seven years after which any limited withdrawal is allowed.
Pre-mature withdrawal is not allowed if one invests in Tax Saving bank fixed deposits.
A similar clause applies to life insurance policies although one could avail of some loans against policies.
Investments in the National Pension Scheme (NPS) are also locked-in until maturity, which is only after the investor turns 60 years.
So, going by the low lock-in period, financial advisor or planner select ELSS as the preferred investment product, provided the investor has the risk-taking ability to invest in such funds.
Should you invest for 3 years only?
Often it is seen that investors invest in ELSS to save taxes but they withdraw the amount after the three-year lock-in expires. This is not a good strategy. ELSS are equity funds and they give the best results when they go through 1-2 market cycles. This market cycle generally takes 5-8 years. So lock-in is actually a blessing.
Hence ELSS meaning, one should continue to remain invested in ELSS in the long run to reap maximum benefit.
2) Return Superiority: The second reason for selecting ELSS over other competing products is the strong likelihood of superior return over the long run. Given that ELSS predominantly invests in stocks, the returns in the medium to long term, which is over a five-year period, is in double digits.
In comparison, although NPS returns for some of the funds are in double digits, but given the conservative investment style, the returns are in low single digits and less than the average returns by ELSS.
Also, returns from bank FDs, Insurance policies at current rates, are in mid-single digits.
3) Ease of investing. You can invest in small amounts. You can plan goals with ELSS investments.
The best part of investing in ELSS is theta it can be invested through a SIP.
You don’t have to wait for the last moment or liquidate your savings to invest in ELSS.
You can start investing in ELSS, since April of any year by dividing the required amount by 12 and save it on a monthly basis.
ELSS investing can be accommodated in your monthly budget, as you know it is a monthly expense.
With ELSS mutual funds, investors have the convenience of investing through the SIP route or Lump Sum. SIPs help investors benefit from Rupee Cost Averaging and compounding over the long term. You can stop and restart your SIPs at any time as per your convenience.
ELSS investments also suit us as a financial planner – as we can link you mid to long term goals with these.
Flexibility matters!
4) Expert Management – Unlike traditional tax saving instruments like PPF or Fixed Deposits, investment in ELSS mutual funds are dynamically managed by professional and skilled fund managers. It is not an “invest & forget” investment. Since each scheme has a portfolio of 35-50 Stocks, it is well diversified and actively managed by a professional team.
5) Tax Advantage: Till the beginning of FY 2018, ELSS capital gains/profits were tax-free but a change in taxation was introduced in the 2018-19 Union Budget.
Capital gains of up to Rs 1 Lakh in ELSS mutual funds will be tax-exempt, however, gains in excess of Rs 1 Lakh will be taxed at 10% (plus cess).
Similarly, the dividend distribution tax will be borne by investors who have opted for the dividend payout option.
Incidence of tax in ELSS investments arises only at the time of redemption and not during the term of the investment. Even with the introduction of the capital gains tax, ELSS remains one of the most tax-efficient 80C investment options.
Share your views below. Hope this article clarifies ELSS meaning in detail. Tell us how helped you plan your future!
Articles you may love to read:
