The Government of India allows many tax benefits for investors under Section 80 of the Income Tax Act. Under Section 80C, you can claim tax deductions of up to Rs. 1.5 lakh with tax-saving investments like PPF, NPS, etc. However, if you want to invest in mutual funds, Equity Linked Savings Scheme (ELSS) is the only tax-saving option.
Read along to know more about ELSS and its tax benefits.
What Is an Equity Linked Savings Scheme?
ELSS is an equity oriented mutual fund that offers tax deductions under Section 80C of the IT Act. According to SEBI, these are open-ended equity schemes that invest their assets primarily in equities and related instruments per the provisions of the Equity Linked Savings Scheme, 2005.
These funds allow you to claim a tax deduction against investments of up to Rs. 1,50,000 in a financial year. The excess amount will not qualify for tax deductions if you invest more than this amount. ELSS has a mandatory lock-in period of 3 years, which is the shortest among similar tax-saving investment options.
Unlike traditional tax-saving instruments, an ELSS does not offer fixed returns. That said, these equity funds can generate inflation-beating returns.
Investing in ELSS funds with a long-term investment horizon lets you deal with their high short-term volatility. With this, you do not have to worry about timing the market.
Features of ELSS Investments:
Given below are some essential features of ELSS:
- All Equity Linked Savings Schemes must invest a minimum of 80% of their assets in stocks and equity-related instruments.
- These funds diversify their investments across different themes, sectors, and market capitalization.
- They are popular among investors looking for capital appreciation and tax savings.
- You can opt for the growth option to increase your potential returns or the dividend option if you want regular payouts.
- The minimum investment amount varies across AMCs (Asset Management Companies). However, there is no upper cap on how much you can invest in ELSS.
- You must remain invested for at least three years, and there is no provision for premature withdrawal. There is also no limit on how long you can stay invested after the lock-in period.
- Returns from ELSS: As these schemes invest in stocks, though the element of risk is high in the short term, it has the potential to offer high returns for long-term investors.
Here are the top five ELSS funds available on Kuvera with the rate of returns (as of 15 June, 2022) for a period of 1 year and 3 years:
| Name of the Fund | Rate of Returns (for 1 year) | Rate of Returns (for 3 Years) |
| Principal Personal Tax Saver Growth Direct Plan | 32.37% | 17.21% |
| Baroda ELSS 96B Growth Direct Plan | 18.77% | 17.20% |
| HDFC Tax Saver Growth Direct Plan | 9.06% | 10.44% |
| Quant Tax Direct Growth Plan | 8.46% | 32.62% |
| PGIM India ELSS Tax Saver Growth Direct Plan | 3.40% | 15.20% |
Tax Benefits of ELSS Investments:
Under Section 80C of the IT Act, you can claim tax deductions of up to Rs. 1,50,000 by investing in ELSS. Only individuals and HUFs (Hindu Undivided Families) can reduce their tax liability in an ELSS fund.
ELSS is one such tax-saving investment u/s 80C. If you are in the highest income tax bracket (of 30%), you can save up to Rs. 46,800 in taxes per year by investing in the Equity Linked Savings Scheme. To get this benefit, you will need to invest at least Rs. 1,50,000 in an ELSS of your choice.
The lock-in period of ELSS is among the lowest in investments offering tax benefits. This is lower than NSCs, which have a 5-year lock-in period or PPFs with a 15-year lock-in period.
Although you have to stay invested for 3 years, it is always a good idea. It lets you prevent losses from short-term fluctuations and make considerable gains from compounding. However, before you decide to invest in ELSS, make sure to have a clear idea about your risk appetite and financial goals.
Benefits of Investing in ELSS Funds:
The following is a summary of the benefits of ELSS funds:
- Portfolio diversification: ELSS funds invest in a variety of stocks with different market capitalization across various sectors. So, investing in a diversified fund like ELSS decreases the risks that may arise due to the underperformance of a particular stock.
- Enables you to grow your wealth: Unlike fixed-income investments like PPFs and tax-saving FDs, ELSS has the potential to generate high returns over the medium-long term. This makes them the right tool to generate enough returns to fulfill your financial goals.
- Tax benefits and high returns: Returns from ELSS investments are tax-deductible up to a specific limit. Their tax benefits and high returns can help investors achieve their financial goals.
- Ideal for long-term goals: ELSS works well when you stay invested for the long term as it offsets the effects of short-term volatility.
- Low minimum investment amount: Like any other mutual fund, you can invest in ELSS with as little as Rs. 500 through SIPs (Systematic Investment Plans). Thus, you do not need to accumulate a large corpus to invest in ELSS.
Factors to Consider when Investing in ELSS:
Here are some aspects to consider before investing in ELSS:
- Past performance: ELSS funds do not offer guaranteed returns like any other market-linked products. So, before you invest, make sure to check the fund’s past performance for the past several years. Also, compare its past performance against its benchmark and competitors.
- Role of the fund manager: The fund manager plays an essential role in the performance of your ELSS. You will want to check if the person managing your money has the experience and track record of picking the right stocks.
- Investment horizon: Owing to the high equity exposure of ELSS, individuals need a long-term investment horizon to minimise the effects of market volatility. That is why it is not a good idea to exit investments after just three years. You will want to stay invested for at least five years to get the best returns from an ELSS.
- Expense ratio: The expense ratio refers to the amount charged by the fund house to cover the cost of operating a fund. The lower the expense ratio, the lower will be your take-home returns. So, you will want to choose an ELSS fund with a lower expense ratio.
- Tax benefits: While an ELSS offers tax benefits, you will not want to choose them purely for tax-saving purposes. This is because these funds carry some risks and may result in you losing part of your investments. Other tax-friendly 80C investments can give more stable returns.
Taxation of Equity Linked Savings Schemes:
Capital gains from ELSS is taxed in the same way as other equity funds. That said, short term capital gains (STCG) tax is not applicable to gains earned from ELSS as these equity funds have a lock-in period of 3 years. Only long term capital gains (LTCG) tax is applicable when investors redeem their units.
LTCG of up to Rs. 1 lakh is exempt from LTCG tax in a financial year. Gains above this amount are taxed at a 10% rate in addition to surcharge and cess.
How to Invest in an ELSS Fund?
It is quite easy to invest in an ELSS fund. You can use platforms like Kuvera to find the top-performing ELSS funds based on their 1-year or 3-year performance. Simply log in from the platform or the mobile app and go to the MF section. Then, select ‘Equity and ‘ELSS’ in the category and sub-category’ filters.
You can invest in ELSS via the lump sum/SIP mode. Investing via the lump sum mode carries a higher risk. However, you can invest via this mode if you have a long-term investment horizon and the markets are bearish.
Investing in an ELSS fund via SIP is ideal for regular and small investments. It helps you build a sizeable corpus over time. Moreover, investing in ELSS via SIP benefits you from rupee cost averaging. As you buy more units when the market is up and fewer when it goes down, you can spread the investment risk.
Final Word
Equity Linked Savings Schemes are ideal for those looking for high returns and tax benefits. You will want to find an ELSS with investment objectives and risk levels that match your financial goals and risk appetite. It is always a good idea to remain invested in these funds for a long time to get substantial returns.
Did you know? You can now invest in ELSS or tax-saving funds on Kuvera:
Step 1: Download the Kuvera app or visit our website.
Step 2: Create your account on Kuvera by completing the mandatory KYC procedure. This will hardly take a few minutes. Once that’s completed, select the ‘Invest’ option on our homepage after which you can select ‘Mutual Funds’ and ‘ELSS’.
Step 3: Kindly go through the list of all zero-commission direct plans of ELSS schemes to start investing.
Frequently Asked Questions
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Is there any risk of investing in ELSS?
ELSS funds have the same risks as any other equity-oriented mutual funds. Market risks, concentration risks, and risks of volatility. Risk-averse investors can consider other Section 80C investments.
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Who would want to invest in ELSS?
Salaried employees with taxable income can consider investing in ELSS funds. In addition to contributions to EPF, this can help them get the maximum tax benefits they can get. New or inexperienced investors can also invest in ELSS as it offers high returns over time.
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How can you redeem units of an ELSS?
You can redeem your units of an ELSS only after holding them for three years. To redeem your ELSS investments, you must place a redemption request with the relevant fund house. You can also redeem them from the websites of RTAs (Registrar or Transfer Agents) or third parties.
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How can you stop an SIP at an ELSS?
To stop a SIP for an ELSS, you have to sign in to your investment account and submit a ‘Stop SIP’ request. Once done, request your bank cancel the ECS mandate or stop the standing instructions.
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What are the other investment alternatives to ELSS?
The following are some of the Section 80C investments other than ELSS:
- PPF (Public Provident Fund)
- NSC (National Savings Certificate)
- NPS (National Pension System)
- EPF (Employee Provident Fund)
- SCSS (Senior Citizens Savings Scheme)
- Tax Saving FDs (Fixed Deposits)
- SSY (Sukanya Samriddhi Yojana)
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