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What are Equity Linked Savings Schemes (ELSS)?

We are in an era where financial planning is a necessity for every household. But, hiring a financial planner is not everybody's cup of tea, especially for a common man. However, there are many schemes which are initiated to reinforce India's economic development and for citizens to accomplish their financial goals. Thus, along with your regular RD's and FD's one can invest in Mutual Funds, ELSS (Equity Linked Savings Schemes), which is a very tax-friendly option. That means by investing in ELSS one can save tax under section 80C of the Income Tax Act, 1961 and potentially earn higher amount of returns.

Things to Know Before Investing in ELSS

Experts recommend that the best way to save taxes is by investing in Equity Linked Savings Schemes (ELSS). Therefore, it is important that you avoid a host of mistakes that would help you to get better returns.

Invest Early, Don't Begin Late

It is important that you start investing early not for ELSS's but also for other tax-saving investments. To maximize returns, investing regularly is the key. Also, if you pick up the wrong ELSS fund, you don't have the option of moving your investments for the next three years. Therefore, investing early and correctly is crucial, so that you have sufficient time to research about how to invest and where to invest.

Avoid Looking at Returns Only

Returns on investment are important, but focusing only on returns will not help you to achieve maximum out of an ELSS plan. It is vital to look whether an investment philosophy matches your view. For instance, a scheme that stays on the top of the performance chart with high risk exposure may not suit a traditional investor.

It is Better Not to Judge Schemes on Short–Term Performance

This point is not only valid for ELSS schemes, but also for all mutual fund schemes. As suggested by industry experts, it is advisable to invest in a scheme that has consistently performed for at least 5 years.

Don't Retrieve Funds after the Lock-in Period

Since the money is locked in for 3 years, some investors tend to pull their money out as the lock-in period is over. However, there is no need to pull the money out if the scheme is performing well. Remember, you should be ready to invest at least for five to seven years in the ELSS invests in the equity.

Avoid Switching Funds Every Three Years

There are investors who wait for the lock-in period to end and jump to another scheme. It is not advisable to jump from one fund to another only because the other scheme is giving a better return than your scheme. It is better to pull your money out only if your fund is not performing well.

What is the lock-in period in ELSS?

ELSS is a diversified equity mutual fund and comes with a lock-in period of 3 years.

What is the benefit of tax in ELSS?

ELSS is the most recommended by most of the industry experts because it provides the benefit of tax deductions under section 80C of the Income Tax Act, 1961. Thus, allowing investors to enjoy both the benefits of capital appreciation, as well as tax benefits.

What is the investment limit of ELSS funds?

There are no limitations or no upper limit on ELSS investments, although investments of only up to Rs.150, 000 per year are allowed to be claimed as deductions under Section 80C of Income Tax Act, 1961.

What are the risks involved in ELSS funds?

The ELSS funds have the same risk associated with them as other equity-related schemes possess. In case the markets go through a bear phase, even the best ELSS funds can see an drop in the value of their portfolio. It is observed that during a bull run, an ordinary ELSS fund will also be able to generate returns. However, a bear phase will separate the best from the rest. Even if the ELSS comes with a fair share of risk, their performance is dependent on the companies they invest in.

How to Invest in ELSS?

The below steps will help in choosing the best Equity related saving schemes.

Step 1: Carefully Selecting a Tax Saving Scheme that you Believe will Suit You

Schemes are based on returns they offer. For example, we have a classic example of last year where Axis Long Term Equity fund gave an annual return of more than 24%, whereas Invesco India AGILE Tax gave a return of barely 8% annually. If we consider these figures, it is very difficult to predict the best mutual funds. However, chances are that most likely the highest forming mutual fund last year will become the highest performing mutual fund this year as well.

Step 2: To Choose From an Option of Direct Schemes or Regular Schemes of the Mutual Funds

The ELSS mutual fund has two investment options, first the regular and other direct. The regular plan charges more or higher cost ratio every year because of the payment to the one who distributes mutual fund. The vital difference between the plans being, they will have different NAV's. In case compared to each other, one should go for the direct plan.

Step 3: To pick your intermediary

There number of mutual fund distributors all over the country. It is advisable to pick an intermediary who will step in and take the burden off your shoulders of managing your mutual funds. Also, the best part about them is that they do not charge a commission for their services. Yet, the companies that they deal with, give them their cut when they get in a new client. If you are a smart, tech savvy investor who is up to date with the current market scenarios, you can directly invest in the funds of choice.

Reasons Investing in ELSS Mutual Funds

Below are the top three reasons to invest in ELSS mutual funds:

  • It provides a tax benefit under section 80C of the Income Tax Act
  • Has the lowest lock-in period of 3 years
  • There is no maturity date

Systematic Investment Plan Option

A SIP (Systematic Investment Plan) is one of the smartest and hassle-free options for investing money in mutual funds. A SIP is where you invest a fixed amount in a mutual fund scheme at regular intervals. It is one of the most disciplined investment plans and will help you reduce the propensity to market fluctuations. It is also a suitable tool that helps you preserve capital and also render significant wealth creation in the long-run.

The advantages of SIP are mentioned below:

  • Provides flexibility to invest small amounts every month
  • Offers a disciplined approach to investments
  • Benefits you from the power of two powerful investment strategies
  • Rupee cost averaging – that helps counter volatility
  • Power of compounding – small investments create a big kitty over time
  • Offers convenient and hassle-free mode of investment

Short Lock-in Period

All the investments authorized under section 80C comes with a mandatory lock-in period, unlike PPF and NSC which essentially come with a lock-in period of 15 years and 5 years respectively. ELSS comes with the shortest lock-in period of 3 years.

It is suggested that one should invest in ELSS for more than 3 years. If the market is hovering at its peak, investing in them will be fruitful if you have a horizon of at least five to seven years.

High Level of Transparency

There are many tax saving investments that offer investment options, however, there are very few that provide the transparency you desire. With ELSS, you can track any and every change that is happening in your portfolio on a daily basis. This will not only help you stay updated with your portfolio but, in a way, also help you make other decisions based on your current returns.

Easy Transaction

With internet penetration, it is super easy and swift to transact ELSS online. One can almost keep a tab on the whereabouts on a daily basis.

FAQs on ELSS

Who should invest in ELSS?

ELSS is not suitable for a person who does not have the ability to take risk. Also, people who are retired and cannot take the risk should not opt for something like ELSS. In short, ELSS is not suitable for you unless you have the ability to take a risk as well as flexible long time horizon for investment.

How to start an ELSS Account?

You can inform your bank, mutual fund house, broker, intermediary, etc. that you wish to open the ELSS account or there are many nationalized or private banks that provide you with this option.

Why SIP is the best method for ELSS?

The Systematic investment plan is the best method to invest in ELSS as it maximizes your returns.

What are the types of ELSS?

There are two types of ELSS

  • Dividend Scheme: In case the fund announces dividend, then investors get an extra income based on those dividends.

  • Growth Scheme: There is no such provision for growth scheme.

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