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Equity Linked Savings Scheme (ELSS) and Its Advantages in Detail

  2/21/23 8:44 AM

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Equity Linked Savings Scheme (ELSS) is a mutual fund scheme that invests the capital from investors primarily in the equity market. It offers tax benefits to investors under Section 80C of the Indian Income Tax Act, 1961. ELSS funds have a lock-in period of three years, during which the invested amount cannot be redeemed. It is a widely popular mutual fund benefit program in which the asset management company makes intelligent investment decisions to build wealth of the investors over time by investing the money in the financial market.

While there are many investment options available in the market like Public Provident Funds (PPF), Fixed deposits (FD), National Pension Schemes (NPS), Unit Linked Insurance Plans (ULIP) etc., ELSS stands out from the other investment avenues since the returns from ELSS are not taxable. Apart from this, there are many other benefits you get when you invest in an equity linked savings scheme.

Advantages of ELSS

  • Lowest Lock-in Period: Contrary to Public Provident Fund’s 15 years and National Pension Scheme’s 6 years, ELSS has a lock in period of only 3 years after which the money can be redeemed. Now you don’t have to wait for a long period to withdraw your savings and use them. If you don’t like to compromise on the liquidity of your investments, ELSS can prove to be the best scheme to invest money and enjoy one of the highest tax-free returns amongst all 80C options.
  • Better Earning Potential: When you look at the market performance of ELSS in the last 5 years, you can see that it has consistently provided high risk-adjusted returns to its investors, which are relatively higher, than most of the other investment options. The long-term average annual returns of ELSS as diversified equity mutual funds will range between 15 to 20%.
  • Tax Savings: Among other options, ELSS should be a must investment in your portfolio if you want to save huge of tax. Investment in ELSS is tax deductible up to Rs. 1,50,000 which can significantly lower your taxable income multiply your savings by a huge margin at the same time.
  • Diversification of Funds: Diversification is a key aspect of investing in ELSS funds. When investing in a diversified portfolio of stocks, the risk of loss is reduced as the investment is spread across different industries, sectors, and companies. This means that if one stock performs poorly, the overall impact on the portfolio is limited, as the returns from other stocks can offset the losses.

What is SIP in ELSS?

One of the best features of ELSS is the option of investing in it through Systematic Investment Plan (SIP). Rather than investing a lump sum amount once a year, you can invest a smaller amount every month. As the lump sum amount can prove to be financially exhausting for you, investing in ELSS through SIP can be a great option.

When you invest in ELSS through SIP, you don’t have to pay any additional tax and you get the same amount of returns you would in any traditional ELSS. For people making a humble living and still wanting to invest in the financial market, SIP in ELSS is the best way to go.

Various Options while investing in ELSS

There are many different schemes/patterns you can choose while investing in ELSS.

  • Dividend option: The option where the investor gets the benefit of regular and timely dividends rather than a lump sum amount at the end of the tenure. Moreover, the dividends received are not entitled to any tax.
  • Reinvestment of dividend: If one chooses this option, an investor can go ahead and reinvest the dividend received which are added again to the Net Asset Value. It is great way to increase your overall returns if the market is doing well during the lock in period of 3 years.
  • Growth option: It is an option where the investor doesn’t receive any gain from the way of dividends. Instead, the entire maturity amount is given at the end of the tenure. While it is a risky option based entirely on market conditions, it can also result in huge number of profits through compounding.

Which One Should You Chose – Lumpsum or SIP?

For those who are risk-averse, investing via Systematic Investment Plan (SIP) is the recommended option. SIP allows for investment across market cycles, which means that you purchase more units when the market is down and fewer units when the market is bullish. Over time, this averages out the cost of your unit purchases and often results in a lower cost. This advantage is not present when investing a lump sum.

Lump sum investment, on the other hand, is suitable for those who are willing to take on higher risk and have a long-term investment horizon, particularly during a bearish market trend. However, investing a lump sum means missing out on the opportunity to average out the cost of unit purchases and may require a longer investment period of over 5-7 years to achieve significant gains.

Tax Savings in ELSS

While a lot has been already said about ELSS helping you save tax under section 80C of Income Tax Act, let us practically see how you benefit from a tax deduction up to Rs 1,50,000. We shall assume that you are a 40-year-old male earning Rs. 8 lacs in this year from all sources.

You have two options: whether to invest or not invest in ELSS or similar tax-saving policies and products. This table shows your tax liability in both scenarios.

Particulars

Without ELSS/ 80C Tax Saving Investment

With ELSS / 80C Tax Saving Investment

Gross Total Income

Rs. 8,00,000

Rs. 8,00,000

Deduction Under Section 80C

Nil

Rs. 1,50,000

Total Income

Rs. 8,00,000

Rs. 6,50,000

Tax on Total Income

Rs. 87,550

Rs. 56,650

Tax saved on Investment

Nil

Rs. 30,900

 

 

 

 

Effectively, you save more than Rs. 30,000 in tax and also earn high returns on your investment of Rs. 1,50,000. If you feel that ELSS should be a part of your portfolio, contact our financial advisors today for an optimum investment plan.

 

Neha Panchal - Financial Content Writer

Neha used to be an Engineer by Profession and Writer by passion, which is until she started pursuing full-time writing. She's presently working as a Financial Content Writer, with a keen interest in all things related to the Insurance Sector.

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