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Be it a tax saving exercise or a wealth building one we have ELSS as a pillar of strength

Nov 15, 2021 / Dwaipayan Bose | 27 Downloaded | 2842 Viewed | |
Be it a tax saving exercise or a wealth building one we have ELSS as a pillar of strength }
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As we approach the final quarter of this financial year, tax planning is one of the most financial activities for all investors. Ideally, tax planning should be done at the beginning of each financial year but if you have not done it yet, you should do your tax planning now to avoid last minute hassles. Section 80C of Income Tax Act 1961 allows investors to claim deduction of upto Rs 150,000 from taxable income by investing in certain schemes.

Different 80C schemes

There are two types of investment schemes under Section 80C:-

  • Non-market linked schemes: These include Employee Provident Fund (EPF), Voluntary Provident Fund (VPF), Public Provident Fund (PPF), National Savings Certificates (NSC), 5 year tax saver Bank FDs etc. These schemes have to pay interest as specified by the Government or the scheduled commercial banks. These schemes have low risk since the safety of investment is assured by the Government or the banks.

  • Market linked schemes: These include mutual fund Equity Linked Savings Schemes (ELSS) and Unit Linked Insurance Plans (ULIPs). These schemes invest in financial market securities. Both ELSS and ULIP have lock-in periods. The returns of these schemes are market linked. These schemes are subject to market risks.

Equity Linked Saving Schemes

Equity linked savings schemes (ELSS) are tax saving mutual fund schemes. Investments in ELSS are eligible for deductions from your taxable income under Section 80C of Income Tax Act 1961. There is no upper limit on investments in ELSS, but maximum deduction from taxable income is subject to a cap of Rs 150,000 in a financial year as specified in Section 80C.

Equity linked savings schemes are essentially diversified equity mutual fund schemes, which invest across different industry sectors and market capitalization segments. ELSS funds have a lock-in period of 3 years. No redemption or withdrawal is allowed in the lock-in period. After the lock-in period, you can redeem units of your ELSS partially or fully.

You can invest in ELSS either in lump sum or through systematic investment plan (SIP). If you are investing in ELSS through SIP, please note that each SIP instalment will be locked in for 3 years from their respective investment dates. You need to plan your investments accordingly.

The redemption proceeds of your ELSS are subject to long term capital gains tax. Long term capital gains of up to Rs 1 lakh in a financial year is tax free and taxed at 10% (plus applicable surcharge and cess) thereafter. Dividends paid by ELSS are added to taxable income and taxed as per your applicable income tax slab rate.

You may like to read this start your tax planning early: invest in ELSS

Benefits of Equity Linked Savings Schemes

  • Equity has the potential to outperform in the long term: Historical data shows that equity, as an asset class, has the potential to outperform other asset classes in the long term. Over the last 20 years (ending 29th October 2021), Nifty 50 TRI has given 17.1% CAGR returns. Over the same period PPF gave 8.1% annualized return. Please note that these returns are purely for illustrative purposes to show relative asset class performance and should not be construed as investment recommendations. One should not compare returns of market linked and non-market linked schemes.

  • ELSS can create wealth for investors over sufficiently long tenures: The purpose of 80C investments should not merely be annual tax savings. It should have long term financial benefits for investors. ELSS is one the best investment options for long term wealth creation. The chart below shows the growth of Rs 10,000 monthly SIP in Nifty 50 TRI over the last 10 years. Please note that we are using Nifty 50 TRI as a proxy for equity as an asset class and ELSS. You can see that, with a cumulative investment of Rs 12 lakhs, you could have accumulated a corpus of Rs 27 lakhs over the last 10 years.

    Growth of Rs 10,000 monthly SIP in Nifty 50 TRI over the last 10 years

    Source: National Stock Exchange, Advisorkhoj Research, as on 29th October 2021. Disclaimer: Past performance may or may not sustained in the future


  • One of the most liquid 80C investments: With a lock-in period of just 3 years, ELSS is one of the most liquid 80C investment options. In other 80C investment options, you need to remain invested for minimum 5 years to enjoy tax savings benefits. Liquidity is always an important consideration in investment decisions. High liquidity does not necessarily mean that you do not remain invested for long tenures; it simply provides you with the flexibility to withdraw partially or fully if there is an urgent need.

  • You can invest in ELSS through SIP: One of the benefits of investing in ELSS through SIP is that, you can invest in tax savings throughout the year from your regular savings in a disciplined manner and do not have to scramble at the last minute. Another benefit of investing in ELSS through SIP is that you can take advantage of market volatility through Rupee Cost Averaging of purchase price.

  • One of the most tax friendly investments: ELSS is one of the most tax friendly investment options under Section 80C. There is no incidence of taxation during the tenure of your ELSS investments. If you redeem your ELSS units, capital gains of Rs 100,000 in a financial year will be tax free and taxed at 10% thereafter. You can use the tax free capital gains every year, to re-invest in ELSS and get tax savings benefits.

Who should invest in ELSS?

  • Investors looking for tax savings and wealth creation over long investment tenures

  • Investors with moderately high to high risk appetites

  • You should be prepared to remain invested for minimum 3 years. In our view, you should have longer investment tenures for ELSS

Investors should consult with their financial advisors, if ELSS is suitable for their tax planning needs.

Mutual Fund Investments are subject to market risk, read all scheme related documents carefully.

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