What is Equity Linked Savings Scheme (ELSS)

Majority of us rush up to our auditors and financial planners during the month of March for tax planning in order to invest up to INR 1.5 Lacs that qualifies for tax exemption under section 80C of the Income Tax Act. We end up buying a new insurance policy, dumping and blocking the money in PPF or NSC, getting into highly tax inefficient 5 year bank FDs, and other traditional tax savings instrument. There is another exciting option available to all of us to save taxes and get good returns, which often remains unexplored - Equity Linked Savings Scheme (ELSS)...Read on...

Why look at just another Tax Saving instrument?

The purpose of income tax exemption under section 80C is to promote the habit of savings and long-term investment. However, we generally don't plan for the ideal investment avenue in advance and take last minute decisions, disregarding all the good advice we get about choosing investment products well.

Tax planning is an essential part of your financial planning. Efficient tax planning enables you to reduce your tax liability to the minimum. This is done by legitimately taking advantage of all tax exemptions, deductions rebate and allowances while ensuring that your investments are in line with your long term goals. Mutual Fund ELSS is a damn good tax saving instrument but still it is not used by maximum Indians.

What is ELSS?

An ELSS – Equity Linked Savings Scheme is akin to a Diversified Equity Fund. It is a special type of mutual fund, where your investment principal qualifies for tax exemption under section 80C.  So, you get the dual benefits of Tax Saving as well as good returns through equity market.

Key characteristics / benefits / features of ELSS

1) The ELSS has a mandatory lock in period of three (3) years. This is quite unlike any other equity mutual fund investments where there is no lock in period. Having said that, this lock in is the least lock in period for any investment done under Section 80C whether it is PPF(15 years), EPF(until retirement), NSC(6 years), NPS(until retirement), or a Tax Saving FD(5 years)  etc.

2) Post the 3 year lock in period (which is very less compared to NSC, PPF etc.), this fund behaves like an open ended mutual fund. You can continue to stay invested after 3 years to meet your longer term goals.

3) ELSS gives you a dual advantage of Tax Savings (up to a maximum of INR 1.5 Lacs on the principal invested) as well as Capital Appreciation, since the gains are also tax free at redemption. Income/Returns on ELSS schemes (dividend and on redemption) is tax free under EEE (Exempt – Exempt – Exempt) regime of the Income Tax Act. [Read more on Taxation Regimes here] This makes it so unique in the sense that you can invest as much money as you want for gaining tax free returns, and that too linked to equity market.

4) An ELSS is an equity oriented mutual fund scheme in which the majority corpus (more than 65%) is invested in equities.

5) Unlike equity funds which require minimum investments of Rs. 5000, one can invest in ELSS with as low as Rs. 500 by means of SIP (Systematic Investment Plan).

6) As the allocation is done in equity which are considered as high return assets, the primary aim of such funds is capital appreciation.

7) As it is linked to equity, it carries relatively higher risk and may not be as safe as NSC, PPF etc.

8) Investors do need to pay tax on any premature withdrawal.

9) ELSS has 2 options: a) Growth Option and b) Dividend Option.

10) There is no upper limit to the money that you can invest in ELSS mutual funds.However, the Section 80C tax rebate is limited to INR 1.5 Lacs.

What are some of the best ELSS Funds?

Choose the fund from a long term investment perspective. 
Here are a few links that might help you:

a) Money Control
http://www.moneycontrol.com/mutual-funds/performance-tracker/returns/elss.html

b) Value Research
https://www.valueresearchonline.com/tax/

c) Policy Bazaar
https://www.policybazaar.com/income-tax/best-elss-funds-to-invest/

Summary

Hence, if you wish to save tax under Section 80C, while offering your portfolio an extra edge on investing long term, ELSS schemes are designed for you! Make full use of them. ELSS has the lowest lock in period with the maximum possible tax free long term returns as compared to any other investment option.

Cheers

Manoj Arora
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