WHEN YOU THINK of saving taxes under Section 80C of the Income Tax Act, your thoughts might immediately turn to traditional options like Public Provident Fund (PPF), endowment plans, National Savings Certificate (NSC) and the five-year fixed deposit. However, it would be a folly to ignore Equity Linked Savings Schemes (ELSS). They can offer tremendous value for money, ease of investment and, above all, the potential for high returns.
What is ELSS?
ELSS is a mutual fund where your money is invested in a portfolio of equity or equity-linked instruments. As a result, it can offer high returns in the long term with moderate risk. We have seen that equity as a long-term investment provides returns that comfortably exceed those from crowd favourites such as PPF, NSC and the five-year deposit. For example, Sensex has returned 10- and 20-year returns of approximately 11-12 per cent on average. ELSS schemes, too, have the potential to offer similar returns. Recent term returns from ELSS (and most other equity investments) have been in the red because of various macroeconomic reasons. However, any equity investment should be done with a long-term outlook in order to mitigate risks and maximise returns.
Key benefits of ELSS
Adhil Shetty
Apart from the high returns, ELSS is an excellent tax-saving instrument. It has the lowest lock-in—just three years—among all tax-saving investments accepted under Section 80C. You can invest up to 01.5 lakh in one or many ELSS schemes of your choosing. Until March 31, 2018, returns from ELSS were entirely tax-free. Since FY 2018-19, equity long-term capital gains (LTCG) over 01 lakh in a financial year are taxed at 10 per cent. An equity investment becomes long term in one year. The 10 per cent tax on LTCG makes it marginally less tax-efficient than PPF. However, this is not an immediate problem for small investors as the tax incidence from ELSS can be smartly avoided by withdrawing gains less than Rs1 lakh.
How the lock-in compares
Let us compare the ELSS lock-in to traditional tax-savers. These typically include the five-year fixed deposits (FDs), PPF, NSC and endowment plans. ELSS is a true winner when compared to these instruments as it has the shortest lock-in period of three years. Your PPF matures in 15 years. The NSC and tax-saver FD mature in five years. On endowment plans and Unit Linked Insurance Plans (ULIPs), you need to make three to five years of mandatory payments. But with ELSS, an investment can be fully redeemed in three years from the investment date.
How the returns compare
Since ELSS invests in a diversified manner in equity funds, the returns that it offers are staggering and capable of beating inflation. As per CRISIL-AMFI’s Performance Index for March 2018, the average returns are 10.58 per cent for one year, 18.07 per cent for two years, 9.14 per cent for three years, 16.94 per cent for four years and 17.73 per cent for five years. These are past returns and do not guarantee future performance. However, it would be reasonable to expect inflation-beating returns from equity in the long term. In comparison, PPF and NSC currently return 8 per cent, a five-year FD returns 7 to 8 per cent. The returns from endowment plans are the lowest and may not be enough to beat inflation.
Ease of investing
With ELSS schemes, you can make a lump sum investment or do a monthly Systematic Investment Plan. The choice is yours. The former is ideal if you already have the amount to invest, and the latter is better if you want to develop an investment habit steadily. It is also a smart way to invest when you are young and have a lower income, as investing in ELSS requires a minimum of 0500. It is also convenient to invest in ELSS because you can do so from your cellphone or computer. Just log on to the website of any mutual fund distributor or fund house, and buy the fund you need. This can be done without getting up from your couch.
How to pick a rewarding ELSS
There are several attractive ELSS schemes, with impressive track records. When picking from them, there are a few things you need to keep in mind. Do not look at historical returns only. Instead, check risk-adjusted returns to get an accurate picture of the gains that you can expect. Look into the ELSS’s performance not just in recent times, but for the past seven to ten years to see if it has been able to consistently cross its benchmark or is on a recent winning streak.
Check the funds the ELSS invests in to understand if it ties in with your risk appetite. While most ELSS investments are diversified, some lean towards mid-cap stocks that carry high risk and offer high returns as well, while others rely on large-cap stocks that are typically a safer bet. So, it is important to look into the fund’s underlying stocks.
It goes without saying that you should pick ELSS from asset management companies that have been in the game for many years, have statistical data to back their claims as well as qualified fund managers.
So, in this tax-filing season, if you are on the hunt for a tax-saving investment that also offers excellent returns, picking ELSS may be your best bet.
The writer is CEO, BankBazaar.com.