Income tax can not only reduce your take-home salary, it can also put a dent in your investment returns. That is why you need to consider a well-thought out investment plan that can boost your earnings and help you attain your investment objectives.
Equity Linked Savings Schemes (ELSS) and Unit Linked Insurance Policies (ULIPs) are the two very popular tax saving instruments. Now, although they both allow you to save taxes under Section 80C of the Income Tax Act 1961, they are two very different products that serve very different purposes. The question of which is the better one requires careful deliberation of their features, benefits and costs. In this article, we will break the two down, study their pros and cons and accordingly conclude which is the better-suited tax saving instrument.
What is ELSS?
Equity Linked Savings Scheme is a category of mutual fund that gives investors the dual advantage of capital appreciation and tax saving under Section 80C of Income Tax Act, 1961. ELSS mutual fund investments are primarily made in equity and equity-related instruments, thus offering better returns compared with some of the other tax-saving instruments like PPF, EPF and NSC. Another advantage of this investment plan is that it comes under the 'EEE' category, which means that the amount you put into an ELSS fund, the dividend you earn and the amount received at maturity are all exempted from tax.
Features of ELSS:
Equity, by nature, is a risky asset class and quite prone to volatility. This is reflected on ELSS as well. Thus, it is more suited for investors willing to accept a higher risk for volatile products.
They come with a lock-in period of three years, starting from the date of investment. This means that the money that you put in will be locked in with the fund house for three years.
Since ELSS is essentially an equity scheme, the gains realized from it will be taxed at the rate of 10% when it crosses Rs. 1 lakh in a financial year under the Long Term Capital Gains (LTCG) Tax. Earnings up to Rs. 1 lakh made from sale of equity mutual funds or shares will be tax free.
Just like other equity funds, ELSS funds have dividend and growth options. In case of growth schemes, investors can get a lump sum following the completion of the lock-in period. Under a dividend scheme, investors can get a regular dividend income, (whenever it is declared by the fund) even in the lock-in period.
Investors can choose between investing in a lump sum or via SIPs. It is advisable to opt for the SIP route as it has been observed that this mode normally helps earn higher long-term returns compared with lumpsum investments.
What is ULIP?
ULIPs - a combination of insurance and investment - are offered by life insurance companies. Part of the premium that you pay will be dedicated towards providing a life cover, while the balance gets invested in funds comprising of equity, debt or a combination of the two, depending on the risk appetite of the individual. The premium paid towards a ULIP is eligible for a tax deduction under Section 80C of the Income Tax Act, 1961 up to Rs. 1.5 lakhs during a financial year. However, it must be noted that to claim this deduction the sum assured must be at least 10 times the annual premium. Additionally, the returns (pay out received) from the policy are exempt from income tax under Section 10(10D).
Features of ULIPs
A minimum lock-in period of 5 years is applicable on ULIPs. Investors looking at long term investments are therefore advised to consider this investment route.
ULIPs provide the option to switch funds during the term. You can choose from equity, balanced, or income funds, depending on your risk appetite or change in life goal.
Policyholders/investors can make additional investments into ULIPs via the facility of top-up premiums. This will help increase the fund value, and tax benefits can be claimed on the same.
Certain charges are levied on the premiums paid. These include the premium allocation charges, fund management charges, administration charges, mortality charges, etc.
Given its equity advantage, ULIPs have the potential to generate better returns compared with any other insurance product.
Considering that ELSS investments are equity investments, they have potential to generate sizeable returns. One method of generating good returns from this is to go for SIPs and benefit from small investment amounts and large pay outs. ULIPs are better suited for long-term personal goals such as child education, marriage, retirement corpus and so on. Additionally, you can benefit from life insurance coverage which will safeguard your loved ones against financial insecurity in the event you are no more.
ULIPs – a better option for investment this tax season
In recent years, ULIPs - which allow you to enjoy tax benefits under Sections 80C and Section 10(10D) of the Income Tax Act - have emerged as the preferred investment option for tax saving. With the reintroduction of the LTCG tax on equities and equity mutual funds, more and more people have shown an inclination towards ULIPs. The fund value on maturity or exiting the policy is tax-free in the hands of the receiver. Any switching that is done between the fund's options is exempt from tax. Given all these tax benefits, taxpayers are definitely recommended to consider this investment plan to save taxes and create wealth.
ULIPs can be viewed as a three-in-one benefit plan. The investment plan will be of advantage to you in the following ways: i) ULIPs will financially secure your loved ones in the event you are no more, ii) You can claim tax deduction on premiums and proceeds from the policy are tax exempt and iii) It is an effective wealth creation tool since part of the premiums are invested in the capital markets. It can therefore be said that including ULIPs can be a big boon to your investment portfolio.
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