ELSS a tax saving investment for a good return

ELSS a tax saving investment for a good return

ELSS or Equity Linked Savings Scheme is a very well-known investment option for investors. It is an eligible investment for the purpose of deduction under section 80C.

You can avail the benefit of deduction when you have certain tax saving investments. It may be your life insurance or maybe PPF or 5 Years fixed deposit etc.

ELSS is one of those investments. It is one type of mutual fund or you can say it is a tax saving mutual fund.

Everybody knows this term “ELSS”, but a very few of us knows about this investment very clearly. The following points are very useful to understand the ELSS completely.

1. What is ELSS?

An ELSS is a diversified equity mutual fund. This type of mutual fund invests its most of the portion of the investment in equity assets.

Actually, the objective of ELSS is similar to any other mutual fund scheme. It collects money from the public. Then invest the total collection in the market. Here market means not only equity share but also different govt. bonds also.

The main difference between normal mutual fund and tax saving mutual fund is the deduction from income tax. You can get the benefit of deduction under section 80C through investment in ELSS.

2. Key features of ELSS

The following are the key features of ELSS:

  • The lock-in period of ELSS is 3 years
  • It is a diversified equity mutual fund.
  • There are two types of ELSS scheme. One is a) Growth Scheme and another is b) Dividend Scheme.
  • It does not have any entry and exit load.
  • You can invest in ELSS in two modes. One is a lump sum and another is through SIP.
  • There is no upper limit of investment in ELSS. However maximum deduction under section 80C is Rs. 1500000.

3. ELSS is a Diversified Equity Mutual Fund.

“What do you mean by diversified equity mutual fund?”

To understand this at first you have to know about the equity mutual fund and diversified mutual fund.

a) Equity Mutual Fund.

Equity mutual funds are the mutual fund schemes that primarily invest in the equity market (Stock Market). Categories of equity mutual fund are as follows:

  • Large Cap Fund
  • Mid Cap Fund, and
  • Small Cap Fund

Equity funds are high-risk funds. The return of this type of mutual funds is very much dependent on the stock market. These types of funds are the best choice for aggressive investors who want long term growth.

b) Diversified Mutual Fund

On the other hand, a diversified mutual fund invests its accumulated fund in the stock of different sectors. It does not depend on the performance of any single sectors.

It is best for those investors who don’t want to be restricted to any particular investment sector.

The main advantage of a diversified mutual fund is if one sector faces a huge loss, still you can earn a good return due to the good performance of other sectors.

c) Diversified Equity Mutual Fund

ELSS is a diversified equity mutual fund. Now you have a clear idea about the diversified fund and equity fund. So, what is diversified equity mutual fund?

It is also an equity mutual fund. Therefore it invests a maximum of its accumulated fund in the equity market. But it is in a diversified manner. It invests in a company regardless of whether they are a large-cap or mid cap or small cap. You can also say that it invests in the equity shares of big, medium and small companies of all the sectors.

4. Growth Scheme and Dividend Scheme

As you know there are two types of ELSS. One is the growth scheme and another is dividend scheme. Now you can ask me a big question. Which option is good for you? Let us understand both schemes.

a) What is Dividend?

In order to understand these two schemes, at first, you have to know the term “Dividend”. It is a payment made by the company to its shareholders out of its profit or reserve.

b) Growth Scheme

In case of growth scheme, no dividend will be paid to the investors. All the profit of the fund will be reinvested.

Due to this reinvestment, the NAV (Net Assets Value) of the fund will increase.

Any sale of the fund may generate huge capital gain due to the increment of the NAV of the fund.

c) Dividend Scheme

On the other hand, in the case of dividend scheme, an amount of dividend will be paid to the investors. Generally, a company declares dividend annually. It will generate a regular income to the investors.

d) Tax charged on above schemes

The dividend is tax-free in the hands of investors. But at the time of payment, the company will deduct DDT (Dividend Distribution Tax) @ 10% from the amount of dividend and the balance amount will be paid to the investors.

Therefore, in the case of dividend scheme, DDT will be deducted every time of dividend payout.

On the other hand, in case of growth scheme, no dividend is paid to the investors. So, no DDT is deducted. But there may be a tax on capital gain.

There are two types of capital gain, long term capital gain (LTCG) and short term capital gain (STCG).

Whether your capital gain on sale of equity share or mutual fund is short term or long term totally depends on holding period of that share or mutual fund.

If the holding period is less than 1 year, then there will be STCG. On the other hand, if the holding period is more than 1 year then there will be LTCG.

In the case of STCG, the tax rate is 15%.

Earlier, the LTCG was not taxable. But from A.Y. 2019-20, 10% tax will be charged if the total gain is more than Rs. 100000 per annum.

d) Which is better for you?

You already understand the difference between the growth scheme and dividend scheme. Now there is a time to choose the good one. Which is best?

It totally depends on your requirements.

If you want a periodic income, dividend scheme is good for you. And, if you want to create your wealth, growth option is good for you.

The main drawback of dividend scheme is DDT @ 10%. Every time, when the company will pay you a dividend, DDT will be deducted. So, you can only get 90% of your payment.

Again, there is no fixed amount of payment of dividend. Sometime it will be less and sometime it will be more. It totally depends on the management decision.

You may argue that in case of growth scheme, 15% STCG tax and 10% LTCG tax is there. But if you hold for more than 1 year, then there will be less chance of any capital gain tax.

If your LTCG will be more than Rs. 100000 then there will be a long term capital gain tax @ 10% will arise. Hence, if your amount of LTCG is less than Rs. 100000, no capital gain tax will be levied.

5. Lower Lock-in Period

In the case of most of the investment related to 80C deduction, there is a lock-in-period. ELSS is also not out of that. But the lock-in-period is only for 3 years. It has lower lock-in-period than any other tax saving investment. See the chart below:

Tax Savings Investment


Public Provident Fund

15 Years. Further 5 years extension

5 Years Fixed Deposits

5 Years.

Employees Provident Fund

5 Years.

National Pension Scheme

Very Long. The amount can only be withdrawn at the age of 60

Sukanya Samriddhi Yojona                                                   11 Years

6. No Entry and Exit Load

In the case of ELSS, there is no entry or exit load.

Asset Management Companies (AMC) manage your fund for your wealth creation. The fund manager of AMC decides where to put your money. They will invest your money at the right time and right place so that you can earn a good return.

During this procedure of fund management, there are certain expenses incurred by AMC like brokerage, different operational costs, other transaction charges etc.

To cover such expenses, AMC will charge some amount from you. That is called “Load”. There are two types of load and they are Entry Load and Exit Load.

Entry load is an amount or fees charged when you enter or join a mutual fund scheme. On the other hand, exit load is an amount or fees charged when you will try to exit or leave a scheme before the stipulated time.

However, from 1st August 2009, there is no entry load on your joining in any mutual fund scheme as per SEBI rules.

Exit load still exists. Actually, the reason behind the exit load is to discourage you from premature withdrawal from the scheme. If you retain your investment until the end of stipulated time, there will be no exit load.

7. Investment in ELSS in a Lump sum or through SIP

There are two ways to invest in ELSS, one is a lump sum and another is through SIP (Systematic Investment Plan). The lump sum investment means one-time investment. On the other hand, SIP means a regular investment of a fixed amount. The minimum amount of investment through SIP is Rs. 500 per month.

In most of the cases, investors are confused about the investment methods. They have no idea which option is good for them.

You must know the most important feature of the stock market. If you want to create your wealth and earn a good return then you have to invest in the long term. Whether you invest in a lump sum or through SIP, long term investment is the key point of your success.

In the case of lump sum investment timing is the main thing. No one can tell you the best time to invest in the stock market. If there is a market crash you will lose your money.

In the case of SIP, you will invest in a regular manner and it will spread over time. If there is any market crash, only some portion of your investment will face a bad period.

Again, SIP will create a regular habit of investment among investors. That will be very much helpful.

8) Deduction under section 80C.

If you will invest in ELSS, that will help you to avail deduction under section 80C. The amount of deduction is restricted to Rs. 150000.

You can invest more in ELSS, but you can’t get any deduction on the extra amount.

There is no restriction on the number of ELSS. You can invest in more than one ELSS fund but the amount of deduction shall not exit to Rs. 150000.

9. Redemption after lock-in-period

As you know the lock-in-period of ELSS is 3 years. But it does not mean that you just invest for 3 years only. Your ultimate goal is long term investment and wealth creation. If your ELSS fund shows a good result then there is no reason for redemption.

It may also be noted that in case of investment through SIP, each SIP installment has the lock-in-period of 3 years.

10. Points to be remembered before invest in any ELSS fund?

The following points are very important. Read it carefully:

  • Before investing in ELSS, at first, you should analyze your taxable income and the amount of probable income tax,
  • It is very much important to know your taxable income because that will decide under which tax bracket your income fall.
  • Now you have to decide the mode of investment. Whether it will be a lump sum or through SIP.
  • Every ELSS is controlled by AMC (Assets Management Company). Don’t see the big names of AMC. Always examine the performance of that fund.
  • You can only see the past performance of any mutual fund. This does not mean that it will give you the same result. Be careful!
  • Analyze the risk level of an ELSS fund.
  • Analyze the expense ratio of that fund. High expenses ratio is not good.
  • You can start either online or offline. Every AMC has there online option to invest
  • You can invest either through a mutual fund distributor or can make direct investment

11. The benefit of investment in ELSS.

All the traditional investment like PPF, NSC etc can give you a fixed or guaranteed income. But if you think about a big wealth creation then equity investment is the only way.

However, you may not have such experience to invest in the equity market. Moreover, it is a very risky one.

In that case, ELSS is the best option to invest in the equity market. It is a great way of your equity exposure.

Equity market can give you result only and only if you invest for a long run. In case of ELSS, the lock-in period is 3 years. If you start through SIP, you will be very much habituated for making the investment.

12. Don’t forget about the risk.

No risk, No gain. It is very much true in the case of equity investment. If you want a big return, you have to take a bigger risk.

In every mutual fund advertisement, you can see the following line

“Mutual Fund investments are subject to market risks. Read all schemes and related documents carefully.”

ELSS is also not out of that.

Any ELSS fund can’t give you any promise or guarantee of any minimum return. All the available data are related to past performance of the fund.

Past performance does not give you any assurance of a good future performance.

So, if you will not take any risk, ELSS is not good for you.

Summary of ELSS

You must remember every information given here about ELSS. For your benefit, a summary of all the important information is given bellow:

  • You may want to invest in equities but you have no proper idea about that. ELSS is a great option to get exposure to equities.
  • It has the shortest lock-in period, only three years. On the other hand, the lock-in period of PPF is 15 years. However, don’t take it as a short-term investment option. In long-term, you will get a much better result.
  • You can start ELSS through SIP also. You can invest Rs. 500 per month. It is easy, right?
  • ELSS is an equity-based investment option. So, you can’t forget about RISK. However, no Risk no Gain. Therefore, you must invest in ELSS with a proper plan.
  • It is true that you can expect a higher return from ELSS than any other investment option. But you can’t expect any return which is not real. Remember, there are no guaranteed returns from ELSS.
  • Invest for the long run. And you know the magic i.e. compounding gives its better result in long run.

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