Introduction
An equity-linked savings scheme or ELSS is a tax-saving investment under Section 80C of the Income Tax Act, 1961. By investing in ELSS, you can claim a tax rebate of up to Rs 1,50,000 a year and save up to Rs 46,800 a year in taxes. An ELSS is the only kind of mutual fund eligible for tax benefits under Section 80C. The portfolio of these funds is dominated by equity-linked instruments such as shares. Let's try to understand about ELSS a little deeper.
5 Best Tax Saving ELSS Funds To Invest In 2023 | What are ELSS Funds | ELSS Funds
What are ELSS Funds?
An ELSS fund is an equity mutual fund that allows you to invest your money into stocks. However, it does not always mean that 100% of your money will get invested in the equity market. An ELSS fund is one of the best ways to benefit from the stock market without taking too much risk.
The best part of the ELSS fund is that they allow you to save tax under the provisions mentioned in Section 80C of the Income Tax Act. You can enjoy a tax exemption of up to Rs 1,50,000 from your annual taxable income by investing in ELSS funds.
To give you this tax benefit, ELSS mutual funds have a three-year lock-in period. This time is non-negotiable, and there is no way to withdraw your money before three years. At the end of this tenure, the income you earn is considered a Long-Term Capital Gain (LTCG), which is taxed at 10% if the income is above Rs 1 lakh.
What are the Features of an ELSS Fund?
Here are some of the essential features of ELSS mutual funds that you may like to know:
- As the name suggests, an ELSS fund invests your money in the equity market. It means the asset management company will invest a minimum of 80% of your money into the stock market. Each company can design its funds differently to reduce the risks.
- Most ELSS mutual funds diversify your investment across sectors and industries. They will also choose a variety of stocks based on their market capitalization and future growth potential to give you the best returns.
- You can invest a lump sum amount in ELSS mutual funds or follow the SIP route. In the latter, you will have to invest a predecided amount every month. It is easier on the pocket and won't impact your liquidity and household budget.
- For the returns, ELSS funds offer dividend and growth options. In the dividend option, you get a regular income during the three-year lock-in period. In the growth option, ELSS funds let your income grow over time to yield better returns.
- ELSS funds do not offer any assured returns. The risk associated with these funds is usually high as they invest primarily in the stock market. However, the returns are generally higher over a long time horizon.
- There is no limit on the minimum or the maximum investment you can make in an ELSS fund. You can invest as little as Rs. 500 to kickstart your fund.
Who Can Invest in ELSS Funds?
ELSS funds are suitable for all investors looking for an investment option to generate income and save on taxes. They are especially recommended to individuals who do not have high salaries and, thus, have a lower risk tolerance and appetite.
There is no age restriction on investing in ELSS funds. As a result, professionals who have just started working can also put their hard-earned money into these schemes.
ELSS funds are suitable for investors who want to diversify their investments and are looking for another option to add to their portfolio. You can even invest in the top three-four ELSS funds to strengthen your investment portfolio.
What Aspects Should You Consider Before Investing in ELSS Funds?
Before investing in an ELSS fund, it is essential to check the fund's long-term performance. Apart from this, here are the factors that you should consider before you open an account.
- Liquidity - As ELSS mutual funds have a lock-in period of three years, it is important to consider your expenses before you commit to an ELSS fund. Once you start investing in a fund, you cannot stop midway.
- Tax Planning - Several individuals invest in an ELSS fund because of the tax-saving benefit. If tax planning is your only consideration, you may want to explore your other options. For instance, your investments in other schemes like NPS and PF are also eligible for tax exemption under Section 80C of the Income Tax Act.
- Investment Horizon - If you plan to pull out your investments after the lock-in period, you may want to reconsider your options. As an ELSS invests your money in the stock market, it may require 5-7 years to stabilize and give you good returns. As the stock market is volatile and subjected to cyclical ups and downs, ELSS funds are advisable only if you have a longer time horizon.
- SIP or Lump sum - Several professionals invest in ELSS mutual funds to avail tax benefits. They do it at the last moment and, as a result, have to manage a lump sum at the eleventh hour. Apart from being financially challenging, it is not a wise step. If the market is high at the time of your investment, your returns may not be in line with your expectations. A better option is to go the SIP way, which averages the cost of each unit.
What Options Are Available for Investment in ELSS?
ELSS funds offer three options that you can choose for your investments.
- Growth Option
The growth option in ELSS mutual funds does not give you regular dividends. You get the benefits after the tenure of the ELSS. The growth option helps increase the net asset value of your units and multiply your benefits. Your net profits or income depends upon the prevailing market conditions. To enjoy decent growth, it is advisable to stay invested for a long time.
- Dividend Option
If you want regular benefits in the form of a salary, you can opt for the dividend option. In this option, the dividends that you will earn will be exempt from any taxes. However, you do not get a lump sum at the end of your tenure.
- Dividend Reinvestments Option
ELSS funds offer a third option, which is to return the dividends and increase the net asset value. Most investors prefer this option when the market is rallying during the lock-in period.
Conclusion
ELSS mutual funds are an investment instrument suitable for investors looking to grow their wealth and save taxes. Here are the key aspects of an ELSS fund, summarized:
- An ELSS fund invests your money in equity mutual funds.
- It has a lock-in period of three years.
- You can invest in either a lump sum or follow a SIP.
- There is no cap on the minimum or maximum investment.
- ELSS mutual funds offer three options - growth, dividend, and dividend reinvestment.