If you are wondering which tax saving instrument to choose this fiscal year, you can consider investing in Equity Linked Savings Scheme. ELSS is an open ended equity mutual fund scheme that comes with a three year lock in and tax benefit. ELSS might hold the potential to offer capital gains which no other tax saving instrument as delivered so far. Because it is an equity oriented scheme, ELSS carries a high risks rewards ratio. This means that even though ELSS funds can offer investors with exceptional returns, one can even lose on their invested amount in volatile markets. This is why mutual fund advisors generally recommend ELSS investors to keep a long term investment horizon.
Here’s an example to help you understand how ELSS works:
TanushreeAbraham is a senior analyst who earns Rs. 10 lakhs per year. This lands Tanushreein the highest tax bracket. Tanushreelearns about ELSS from a close relative and decides to invest Rs. 1.5 lakh. According to 80C of the Indian Income Tax Act, 1961 an individual can invest up to Rs. 1,50,000 in ELSS and claim tax deductions for the same. By investing in ELSS Tanushree’sgross taxable income has now come down to Rs. 8.5 lakhs per annum. Also, the three year lock in will ensure that the invested amount continues to accrue interest and might even help her building wealth in the long term.
What makes ELSS a better tax saving instrument as compared to conservative tax schemes?
A lot of tax paying individuals are shifting from conservative investment options like PPF, NSC, and tax-saving FDs to ELSS. That’s because one single unit of an ELSS fund is a combination of multiple equity stocks. This means that when you invest in ELSS you get exposure to equity markets and at the same time you invest in a tax saver fund that invests in a diversified portfolio of securities for income generation. Also, ELSS comes with a statutory lock-in period of three years which is probably the lowest among other tax saving instruments.
ELSS has the option of SIP which is not offered by any other sax saving instrument. Systematic Investment Plan is a new investment approach where you can invest small amounts at regular intervals till your investment objective is achieved. With SIP all an investor has to do is decide on a monthly SIP investment amount following which every month on a fixed date a predetermined amount is debited from the investor’s account and electronically transferred to the fund.These days, you can start a SIP in ELSS with a monthly investment amount as low as Rs. 500 per month.
There are several benefits of starting a SIP in ELSS scheme. Investors can also refer to online SIP calculator. A free online tool to help you determine the approximate figure that you might earn at the end of your investment journey. Investors can stop or skip their SIP at any point without having to pay any penalty or fine. If you do not redeem your ELSS units even after the lock in period and allow reinvesting, you can benefit from the power of compounding. That’s because when you earn interest on the invested amount and do not redeem the earned interest, it gets reinvested and starts earning interest of its own. Now imagine the corpus you can build through compounding over a period of seven to 10 years if you allow reinvesting instead of redeeming your ELSS units.
ELSS is a tax saving scheme that gives investors an opportunity to earn tax while the invested amount continues to earn interest till you decide to redeem all your units. However, ELSS doesn’t guarantee capital appreciation and hence, investors are expected to consult a financial advisor before investing.