How to save tax from mutual fund investment

Why are ELSS Mutual Funds the Best Tax-Saving Option?

Investing in ELSS mutual funds comes with the dual benefit of tax deductions and wealth accumulation over time. ELSS mutual funds have a lock-in period of just three years, the shortest among all tax-saving investments and have the potential to offer the highest returns among 80C options.

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• The shortest lock-in period of just 3 Years

• 2x returns of FD/PPF

• Option to invest a small amount every month (SIP)

• Invest as low as Rs 100 a month

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What is an ELSS fund?

An ELSS fund or an equity-linked savings scheme is the only kind of mutual funds eligible for tax deductions under the provisions of Section 80C of the Income Tax Act, 1961. You can claim a tax rebate of up to Rs 1,50,000 and save up to Rs 46,800 a year in taxes by investing in ELSS mutual funds.

ELSS mutual funds’ asset allocation is mostly (65% of the portfolio) made towards equity and equity-linked securities such as listed shares. They may have some exposure to fixed-income securities as well. 

Factors to consider before investing in ELSS

You have to consider the following factors while choosing to invest in an ELSS mutual fund:

• Investment horizon: You need to have an investment horizon of longer than five years to consider investing in ELSS funds. The equity exposure of ELSS funds requires you to have a longer investment horizon in order to mitigate market volatility.

• Returns: You need to understand that ELSS funds do not provide guaranteed returns as they are dependent entirely on the performance of the underlying securities. However, having an investment horizon of longer than 5 years can provide higher returns than any other tax-saving investment option.

• Lock-in period: ELSS mutual funds come with a lock-in period of three years. Your investments are mandatorily locked-in for three years from the date of investment, and you cannot redeem your holdings until the completion of this period.

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Best mode to invest in Elss – SIP or Lumpsum

Investing via an SIP is advisable if you are not willing to take higher risk. When you invest through an SIP, you get the opportunity of investing in a fund across business cycles. This helps you get the benefit of purchasing the fund units across market cycles. When the markets are down, you buy more units while you purchase fewer units when the markets are bullish. Therefore, over time, your price of purchase of fund units gets averaged out and turns out to be on the lower side. You will benefit from this when the markets rise as you can realise higher capital gains on redemption. This benefit is not available if you invest a lump sum.

Investing a lump sum is not advisable unless the markets are gripped by a bearish trend, and you are willing to take higher risk levels and have a longer investment horizon. You miss out on the opportunity to purchase fund units across business cycles, which requires you to stay invested for longer than 5-7 years to realise good gains.