Indian Tax Saving Funds For Beginners!

4 min read

In your journey towards wealth creation, investments are of paramount importance. Depending upon your individual financial requirements along with the overall goal of wealth creation you have several options when it comes to investing your hard-earned money. Generally, you can invest in asset classes of three broad categories: high-risk investment like equities, low risk investment like fixed deposits or government bonds and last but not the least, Tax Saving mutual funds.

Saving tax on our earnings is not abstract art, and can be undertaken as a methodological process — choosing to invest in the right places where your investment can grow with minimum risk, little/no tax – and ELSS is a fine example of this approach. 

What is ELSS?

Equity Linked Saving Scheme or ELSS is a type of mutual fund scheme that primarily invests in Equity assets. Investments of up to 1.5 Lac made in ELSS Mutual Funds are eligible for tax deduction under section 80C of the Income Tax Act. 

The advantage ELSS has over other tax Saving instruments like tax-saving FD’s, PPF and NSC is the shortest lock-in period of 3 years. This means you can sell your investment only after 3 years, from the date of purchase and if you have an ELSS SIP (Systematic Investment Plan), each instalment has a lock-in period of three years, which means each of your instalments will have a different maturity date.

Let’s have a look at the essential features of ELSS:

  • Every ELSS fund invests at least 80% of its portfolio in a diversified mix of equity and equity-related instruments.
  • Funds are tailored to specific investment objectives and levels of risk.
  • You must keep your money invested in an ELSS fund for at least three years. This period serves as the lock-in period. Prematurely withdrawing your money before the lock-in period is not allowed. There is no limit to the amount of time you can remain invested in an ELSS fund after the three-year lock-in period. 
  • You can deduct up to INR 1.5 lakh of what you invest in an ELSS fund from your annual taxable income. While you can only deduct INR 1.5 lakh invested in an ELSS fund from your taxes, if a scheme is performing well, you can always invest more than that amount
  • It is important to note that all gains your ELSS investments make are taxable as per the prevalent tax norms. At the time of writing, these include:
  1. Short-Term Capital Gain Tax (STCG) – This is not applicable to ELSS funds since investors cannot withdraw for three years from the date of investment.
  2. Long-Term Capital Gain Tax (LTCG) – Up to INR 1 lakh per year of LTCG is exempt from tax. Gains above INR 1 lakh are taxed at 10% plus surcharge and cess.

What are the benefits of investing in ELSS?

To identify the best tax saving scheme for your needs, always consider the percentage of returns, lock-in period,etc. Let’s see how ELSS fares on these fronts.

  1. Tax Savings:

At the time of writing, ELSS funds are the only type of Mutual Funds eligible for tax deductions. As discussed above as well, you can avail tax deductions upto Rs 1.5 lakh in a year by investing in the scheme.  

However, Long-term capital gains from ELSS above Rs 1 lakh are taxable, still these funds are one among the best tax-saving options. These offer higher post-tax returns as compared to other investment options like Unit Linked Insurance Plans (ULIPs) or Public Provident Fund (PPF).

  1. Short lock-in period:

Once you invest in ELSS funds, they remain locked in for a period of 3 years. Other investments like Public Provident Fund (PPF), Employees Provident Fund (EPF) and National Savings Certificate (NSC) have a minimum lock-in period of 5 years or more. 

  1. Can provide long-term return:

Though the funds are locked-in for a period of three years, you can allow the funds to grow further by not redeeming it after the stipulated time. As these funds invest in equities, over a period of time, it can help you create higher returns. 

  1. Inculcates the habit of saving:

You can invest in ELSS schemes with as small an investment as INR 500 per month. This is also known as the Systematic Investment Plan (SIP) in ELSS schemes. Thus, with minimum investments on a monthly basis, you can watch your money grow. 

  1. Higher returns:

As these funds invest primarily in equities, you will likely receive higher returns from the market.

What are the Tax Implications on ELSS?

As it has been mentioned above, investment  upto ₹1.5 lakh in ELSS is eligible for deduction from taxable income in the financial year. We can understand ELSS taxation with the help of following example:

  • Suppose you have ₹2 lakh disposable taxable income in a given financial year, and you decide to invest in ELSS, only ₹1.5 lakh out of this amount would be eligible for deductions, reducing your taxable income in that year (applicable only if you do not have any other tax saving investments allowed for deduction under Section 80C of the IT Act).

You should also be aware of the capital gains tax that is applicable to returns generated by equity mutual funds. The returns from this fund are taxed like that from any other equity mutual fund scheme. However, since the units can’t be redeemed before 3 years of investment, only Long Term Capital Gains Tax (LTCG) of 10% on gains above ₹1 lakh will be levied.

  • Suppose you have made a capital gain of ₹1.5 lakh on investment in this scheme at the time of redemption, LTCG of 10% would be levied on ₹50,000 in that financial year. ₹1Lakh in capital gains is exempted from taxation. The payable tax would be ₹5,000.

Who Can Invest in ELSS?

ELSS is a good investment option for individuals who are at early stages in their careers. Individuals who are relatively risk averse but want to make investments in products that carry relatively low risk can consider ELSS. This scheme is also ideal for investors who earn substantially through some form of high-risk investments and require a means to save on tax.

ELSS does not restrict investors by any upper age limit, so individuals can start investing as soon as they start earning or even after retiring. ELSS can also work very well for individuals who are looking for diversity in their investments by investing in the top three or four high-performing ELSS so as to accrue impressive returns over a period of time.

How To Invest in ELSS?

It is quite easy to invest in an ELSS fund with ShareIndia. The signup process is easy and can be done on a smartphone or on your web browser; in a few short and easy steps. All you have to do is provide some basic details about yourself to complete the KYC process, choose the type of fund and the amount you want to invest, and make the required payment amount. 

Post that, you can always see how your funds are performing by checking your online portfolio. With ShareIndia you can be assured that your investments are always safe, accessible and supported by cutting edge technology. Click here to sign in, or create a new account

Disclaimer: Any Advice or information in the post is general advice for education purpose only and is not responsible for generating any trading profits for anyone, please do not trade or invest based solely on this information.

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