ELSS or Equity Linked Saving Schemes are also known as tax saving mutual funds. Beginning from 20th June 2016, they have had quite a good run till now. ELSS has also outperformed the diversified regular equity funds over the last few years.
The average performance of tax saving funds was inspiring, and the returns increased to a 26 percent average in the past one year as compared to the 21 percent delivered by the large cap category and 16 percent returns of the BSE Sensex. It is amazing to note that a majority of ELSS mutual funds showed returns of over 30 percent in the last 1 year.
It is important to remember that the spectacular performance of the equity-linked saving schemes is not something that has not occurred before. It may be noted that tax saving funds has outshone their peers for prolonged periods, even for the past ten years. Over the last 5 years, the broader market has yielded 13 percent, while ELSS fund had returns of 20 percent. This means that an investment of INR 1 lakh in tax saving funds category during this period would have grown into a corpus of INR 2.48 lakhs, and the broader market returns would have been only INR 1.84 lakhs.
What is different about ELSS?
The main difference between ELSS mutual funds and the regular, diversified equity linked schemes is the fact that the former will ensure exemptions from taxation and offer the chance for capital growth. ELSS mutual funds are eligible for tax deductions under the Income Tax Act’s section 80C. Also, up to INR 1.5 lakhs of the investment in tax saving funds is qualified for tax rebate investors can end up saving nearly INR 45,000 per year; this is based on the assumption that the investor falls under the highest income tax bracket and is saving 30% tax on investment of INR 1, 50,000. It may however be noted that ELSS does not come with any upper investment restrictions. The tax exemption is not applicable to regular equity-linked mutual funds, even though both regular equity MFs and ELSS are eligible for nil long-term capital gains taxation. Dividends provided by both kinds of funds are however tax-free.
Tax-saving mutual funds also invest in mid and large cap shares just like other types of equity-linked funds. Hence, the strategy of investors needs to be based on this fact. ELSS fund however come with a lock-in period of 3 years. This is not the case with diversified equity funds as investors can exit whenever they want after deduction of the pertinent exit loads. The lock-in period associated with ELSS funds is however beneficial as fund managers can make investments for a longer period without getting worried about liquidity. People who select the SIP or systematic investment plan route for making investments in tax saving funds also need to know that each investment via SIP will get locked in for 3 years.
What do you need to do before investing in ELSS?
Before putting in the money in tax saving mutual funds, investors need to make a decision about their priorities. Are they seeking short-term gains and mean to sell the fund as soon as the lock-in period is over? It may however be noted that wealth creation needs investments for mid to long-term periods. Hence, you will have to find a fund that is suitable to your financial goals.
Long-term investment focus
Investors can look at the example of the Axis Long Term Equity Fund. This fund has a great plan of finding and investing in shares for a term period of 3 to 5 years. This kind of strategy will make sure that the fund makes investments in high-quality and sustainable stocks that show consistent potential of growth as well as has foresight to overlook short-term volatility in returns and/or performance of the stocks as long as growth occurs in the long-term.
From the time it was launched, the Axis Long Term Equity Fund has had a compact and stable portfolio with increased focus on finding such opportunities throughout the market spectrum. Sometimes even with the best research a fund may not get the desired results. The same was the case with this fund in the 2016/17 financial year as it performed poorly. This was the year when lower quality and beta stocks made hay. Demonetization also had a bad impact on this fund’s performance as some of its major investments in consumer and financial sectors were worst affected by the uncertainty in the market. It has however recovered now. The return of 20 percent provided by this fund may not be good enough to beat the top-run peers, but the basic point of steady and sure growth is still intact as the fund continues to rank among the best players in the category of 5 year returns, with a solid yield of 25 percent.
Are ELSS mutual funds right for you?
Tax saving funds is the best investment for people who are looking to get a significant tax rebate and increase their wealth by remaining invested for the long-term. Such people need to calculate the correct sum of money that can be invested in ELSS to assure maximum taxation benefits. Investors may also regard ELSS for possible capital gains if the main goal is not saving tax.
Different research has shown that almost 88,000 new portfolios were added to the category of tax saving mutual funds in May, 2017. This is an indication that tax planning is being taken seriously by investors and that they will not be selling off their stake in ELSS funds when the ‘tax season’ ends. It is also indicative of our gradual but steady shift to financial assets from physical assets.
Those who are young and have newly begun their process of creating a financial corpus will find that investing in ELSS funds is a great option. Since equity is fraught with risk, it is a better option to begin investing in a systematic manner. This means that you put in a small sum on a monthly basis for a long period instead of a lump sum investment at one go. SIP every month is not just going to help save money on a regular basis, but will assist in riding through unpredictable markets. Put aside a minor percentage of your monthly salary for investment in ELSS via the SIP method and see your investment and wealth grow with each passing year.