THE INDIAN CRICKET team recently defeated Australia overseas, thanks to two batsmen with different styles who saved the day. As you approach last-minute tax planning for the financial year, the best avenue to use is Equity-Linked Savings Scheme (ELSS) on account of its 2-in-1 product nature. ELSS offers tax deduction of Rs1.5 lakh from gross taxable income and wealth creation potential in a simplified construct. Along with these great features, ELSS offers the shortest lock-in of three years among Section 80C alternatives, while long-term capital gains are tax-exempt upto Rs1 lakh a year.
What is ELSS?
ELSS is an equity-oriented mutual fund investment scheme, which sharpens your chance to beat inflation. ELSS is also known as a tax-saving fund. The Income Tax Act, under Section 80C, allows taxpayers to invest up to 01.5 lakh in specific securities and claim it as a deduction from their taxable income. ELSS is among the approved Section 80C instruments while others include PPF, postal savings like NSC, tax-saving FDs and NPS. The popularity of ELSS can be gauged from the fact that it is the largest equity fund category in the mutual funds industry with over 1.2 crore investor accounts and Rs1.1 lakh crore assets under management.
An ELSS investor with income of Rs12 lakh per financial year can save up to Rs46,800 by availing tax deductions under Section 80C. ELSS is a better product than other Section 80C alternatives on account of better return potential thanks to market-linked nature, shorter lock-in and tax benefit on maturity. The tax deduction is just one part of the ELSS benefit. The 10 year returns of ELSS funds range between 10-18 per cent CAGR while 20 year returns fall between 10 to 20 per cent CAGR, exhibiting solid wealth creation potential.
For many beginner investors, ELSS funds make an excellent gateway product. The product is an ideal way to experience the first taste of equity investing and mutual funds. Once investors get used to long-term equity returns, they can try other types of equity investments as well and create more wealth. This approach works for existing investors, because ELSS offers tax deduction benefits for each investment. Once an existing ELSS investor is comfortable, they can look at other equity funds to widen their basket.
Equity investments carry higher risk over the short term. However, for investment periods of five years or more, the risk is considerably low. The best way of investing in an ELSS is through monthly systematic investment plans (SIPs) throughout the year. This can be done by dividing the annual amount into 12 easy installments.
Goal-planning is a good approach to investing. Since ELSS come with a three-year lock-in, these tax-saving funds can be used for goals that have at least a three year tenure. A lock-in’s inherent advantage is that money stays invested and has the chance to grow without being perturbed by market ups and downs. A defined investment horizon will help your ELSS investment enjoy the benefit of compounding.
Good ELSS funds will be diversified and will aim to generate capital appreciation by predominantly investing in equity instruments. Suitable ELSS schemes will have a growth investing approach to stock selection, since the money gets ample time to remain invested on account of the lock-in. To select good funds, look at out-performance over benchmark for longer time-periods such as five and 10 years, along with rolling return analysis and SIP performance.
ICICI Prudential Long Term Equity Fund is one such fund which has consistently given investors a good investment experience. Launched on August 19, 1999, the fund has a good track record of over 20 years.
The author is a mutual fund distributor.