Rhea has just graduated from college and started working in a consulting firm. She believes in being financially disciplined and wants to start saving early on. As she was going through various options to invest, she came across Equity Linked Savings Scheme (ELSS) and decided to invest in it as it was one of the best tax saving option.
Let us find out what are the distinct features of ELSS which made Rhea choose it.
One of the most popular investment options to help efficient tax planning is a tax saving mutual fund, otherwise known as ELSS. Majority of the corpus in ELSS is invested in equity.
Rhea was happy to know that she can start investing in ELSS with as little as INR 500. There is no upper limit of investment. She can make the investment directly or through one of the mutual fund advisors who is registered with SEBI.
How to invest in ELSS – SIP or lump sum?
One of the questions that Rhea was battling with was deciding on the correct mode of investment. Lump sum investment meant that Rhea had to invest in bulk whereas, with a SIP, a fixed sum was to be invested regularly. Since Rhea wanted to be financially disciplined and avoid the stress of paying in bulk, she decided to go ahead with a SIP investment plan. Rhea liked the fact that she could set auto-debit instructions on her account to make sure that the specified amount is deducted from her account every month and invested in the scheme.
Firstly, while choosing the right ELSS, Rhea should select the right ELSS that she feels will suit her needs. After this, she chose a bank. There are several nationalised and private banks that give her the option of opening an ELSS account. Also, Rhea has the option of investing through SIPs, bi-annually or annually. While people do invest in lumpsum, the best way to invest in an ELSS is through a SIP, as it makes you more disciplined and prepared regarding money getting debited out of your account.
Returns from ELSS
What made ELSS stand out for Rhea among the plethora of investment options was the rate of returns. She noted that on an average the returns were between 15-18% which was significantly higher when compared to other popular options such as PPF, NPS, and fixed deposits.
Advantages and risks associated with ELSS
ELSS comes with a mandatory lock-in period of three years. This means that in Rhea cannot redeem or transfer the units to another scheme till the expiry of the lock-in. On the brighter side, in case Rhea is in need of urgent funds in the future, she can liquidate her investments. During the course of her research, she found that other equity funds did not have any lock-in restrictions.
But ELSS is the only pure equity investment which offered her tax benefits up to INR 1.5 lakh in a financial year under Section 80C. Therefore, despite a mandatory holding period, ELSS is extremely popular with investors on account of being a tax saving fund.
Should you consider investing in ELSS?
Here are a few important factors that you must consider if you are planning to invest in ELSS:
• Given that ELSS is an equity product, it is risky and can be volatile. If you have a risk appetite like Rhea, then investment in an equity scheme such as ELSS is recommended. If you are averse to risk, then traditional investment options such as PPF and FDs are a safer bet.
• Secondly, while the mandatory lock-in period is less, the investment should be made with a long term plan of 5-7 years unless you are in urgent need of funds. ELSS is well-suited to meet long term financial goals: therefore, do not rush to liquidate the investment as soon as the lock-in period expires.
• No premature withdrawals are permitted before the expiry of the lock-in period.
• Equity mutual funds such as ELSS which provide long term capital gains above INR 1 lakh are taxed at 10%. Additionally, the mutual fund has to pay a dividend distribution tax of 10% on dividends declared under ELSS resulting in a reduced dividend.
• KYC is mandatory for ELSS. A lot of fund houses also give an option of completing KYC online which saves the trouble of submitting physical copies of the documents.
• Always ensure to take note of the rating provided by rating agencies to ELSS funds: if you are a conservative investor, you may not want to consider a highly rated fund since the risks associated may be higher.
• There are no guaranteed returns in case of ELSS since it is linked to the performance of the markets.
It is always recommended to maintain a diverse portfolio to distribute the risks. One must steer clear of building a portfolio with a sole emphasis on ELSS investments. Accordingly, Rhea decided that she will invest in one ELSS and also consider other options to maintain a healthy portfolio.