Equity Linked Savings Scheme is a variegated equity mutual fund scheme which has the majority of the capital from investors invested in the equity Market. The performance of the equity over the course of the years determines the returns and the returns as such are higher when compared to the returns from Fixed bank deposits, Public Provident Fund and National Saving Certificates. Furthermore, the returns of ELSS aren’t taxable in contrast to those of PPF and NSC.
This mutual fund scheme owes its popularity to its use as a valuable tax saving instrument; investors can avail tax deduction up to a limit of 1.5 lakhs under section 80C of the Income Tax Act. Asset management companies work the market and churn out profits off the investment by investing the money in the financial market.
ELSS funds are locked in for a period of 3 years and the investor has the prerogative to simply leave the scheme after selling it post the lock-in period.
This lock-in period has an added benefit to it. Were it to be a normal mutual fund without a lock-in period, then an individual is more likely to quit before the maturity owing to monetary constraints. But ELSS doesn’t afford you that luxury and in turn makes way for better returns.
Then again, this doesn’t always work to your benefit. In the event of a market slump, there’s barely anything one can do to protect the funds. You’d be forced to wait until the tenure on the scheme ends before you can withdraw the amount and until that happens, the damage would be pretty much irreversible. Monthly investments are also worked to a disadvantage due to the lock-in factor. An investment in the nth month can only be withdrawn on the (n+36)th month.
ELSS Investment OptionsGrowth option: Any gains as a result of rising in the stock market won’t be received by way of dividends. Only after the maturity period of the scheme will you be given the entire amount. Risk on returns based on market conditions doesn’t bode well for long durations and by itself isn’t very feasible.
Dividend Option: Rather than receiving a lump sum at the end of the maturity period, the dividend option lets you reap in benefits in regular intervals and these dividends are altogether exempt from taxation.
Reinvestment Option: Should you choose this option, you’d be allowed to invest the dividends received by you back to the net investment. In good market conditions, reinvesting can further increase the chances of higher returns.
Advantages Of ELSS
Better Earning PotentialAs mentioned before, ELSS fares better in terms of returns when compared to the majority of other investment options. Market performance of ELSS for the period of past 5 years proves this edge over the other options. Although the lock-in period is 3 years, the investor always retains the option of letting it keep on, thus increasing the chances of higher returns all while using the scheme for tax exemption.
Tax SavingsThe Income Tax Act, 1961, does not offer any tax redemption for normal mutual funds. However, it does offer tax redemption for the equity-linked saving scheme. If you were to invest in ELSS, you would be able to deduct 1.5 lakh from your taxable income and bring down your tax liability. Further, any returns from the equity-linked saving scheme would be wholly excused from taxation.
Other investments options like PPF, NSC and fixed deposits have substantially longer lock-in periods than that of the equity-linked saving scheme; PPF has a lock-in period of 15 years. This gives rise to ELSS being more investment advantageous if the deal breaker for you is immediate liquidity.
Systematic Investment Plan
SIP gives you the wiggle space to invest without overtaxing your income. As opposed to investing a lump sum in one go, Systematic Investment Plan allows you to invest in smaller portions every month. This option doesn’t have any bearing on the tax exemption benefits and investment returns of ELSS. Systematic Investment Plan allows the common public to invest in the financial market without them finding the prospect too intimidating or financially taxing.