ELSS- Equity Linked Saving Schemes

What is an ELSS?

ELSS is Equity Linked Saving Scheme : It is a type of mutual fund which comes with a mandatory lock in period of 3 years. As the name suggests, it is an equity fund that prominently invest in equities.

• Tax benefits:
  1. On Investment: Investment into the ELSS fund is allowed as deduction under Section 80C of the Act up to Rs. 1, 50,000 in a year.
  2. On receiving Returns from Investment: Since the investment is in Equity market. Returns in the form of Dividend received can be claimed as exemption under section 10(34) of the Act.
  3. On Redemption: The capital gain on redemption of investment, if any, earned is treated as long-term capital gain which is exempt u/s 10(38) of the Act.
  Therefore we can conclude that, ELSS works on EEE model of tax exemption (Exempt, exempt, exempt)
• Lowest lock-in period: It has the lowest lock-in period of 3 Years as compared to other tax saving investments products.

  The amount invested cannot be withdrawn before the lock-in period is over.

  However, if you are investing in ELSS through SIP (Systematic Investment plan) mode. And you wish to discontinue it for any reason such as low performance of the fund. You can stop investing your future SIP’s into the product. As a result of that, the existing invested units can be redeemed only after the end of the lock-in period.

  Meanwhile ,it is advisable to invest in equity with long-term horizon for better returns. In any case the lock-in period should not be confused with maturity period. You can stay invested even after the lock-in period is over. After the lock-in period is over, the ELSS fund automatically converts into a normal open-ended equity fund.

• High Returns: Although, Return on investment is not assured. As it is a market-linked investment product. However, the best performing ELSS have given returns of around 15-20% over the long term. Also since an ELSS is an equity oriented product, it gives you inflation-adjusted returns as compared to other popular tax saving instruments.

A brief comparison of various popular tax saving investment instruments.

How to Invest in ELSS?

ELSS is available in two options:

• Growth Option: If you are looking to create a corpus for a long-term goal, then this is the most suitable option for you. In fact you do not receive any payouts in between.Rather they keep on accumulating in the scheme which will be reflected in your NAV of the fund. Moreover, profits are re-invested to earn you more money.
• Dividend Payout Option: If you want a regular cash flow you can avail this option. Under this, an investor receives dividend whenever it is announced by the mutual fund. As a result of that the dividend is tax-free in the hands of the investor.

Investment in ELSS can be made in two modes:

• Lump sum: This is suitable for those who have current liquidity. In fact anybody with a surplus in hand today can invest the entire amount together.
• Systematic Investment Plan (SIP): It is suitable for those who have regular cash flow. In addition to that who seek to put some discipline to their future Income. A pre-determined amount is required to be invested in regular intervals in the fund. Therefore each individual SIP would have a lock-in period of 3 years.

  So, if you started investing in ELSS fund through SIP. For instance say in April 2016, you can redeem the units bought from the first installment only in April 2019. Those brought from the investment in May 2016, can be redeemed only in May 2019 and so on. The redemptions can be done on a first-in-first-out basis.

  Considering the volatility in equity market. An SIP is best way to invest as it spreads the risk of investing in equities over time. Furthermore it will also averages the cost of buying units. In other words you can avoid the risk of investing all your money just before a market downturn. By investing consistently, your average cost per unit will be lower. Therefore you are less likely to be affected by the adverse fluctuations of the market.

Whether any Risk Associated?

If you are a risk-averse investor, then the ELSS fund should certainly not be a part of your investment portfolio. Since ELSS is a market- linked product. Moreover you invests in equities, the volatility element in it cannot be ignored. Thus, the returns are not guaranteed.
Also the lock-in period act as a limitation in the event of market downfall as you cannot withdraw your investment made before the end of the lock-in period.

How to Select ELSS Tax Saving Funds?

One should carefully scrutinize various ELSS schemes before making investments. Gauging your risk appetite and the time horizon for which you can stay invested.Above all it is essential to let you choose the fund that best suits your investment goals.
Best ELSS should be a scheme which gives you wealth in the long-term along with peace of mind. Therefore, before investing a thorough research of the fund is must.

Five things to watch out for before investing in ELSS:

• Past Performance: Funds which have performed consistently even in the times of market downturn, could be considered reliable. The performance must be checked on a time horizon of at least 5years. Ih other words good results are not yield if the funds are selected on the basis of short term performance.
• Reputation and size of the Fund Management co.: Funds with higher AUM (Asset under management) can be considered as more reliable.Since it denotes that investors trust the particular fund more.
• Fund Manager: It is imperative to collect information about the person managing your hard earned money. His investment idea and track record of performance of the funds managed in the past, mainly at the time of market downturn is essential for you to know.
• Portfolio of the Fund: You should look for your scheme’s offer document to understand the type of equities your scheme would be investing in. The investment could be in highly volatile market or relatively less volatile or stable, depending on your risk taking ability.
• Expense Ratio: It is the fund’s operating expenses to the AUM ratio. In general terms, it is the fee charged by the mutual fund for operating your scheme. In addition to that your return gets lowered because of these expenses. Hence, selecting a fund which has got lower expense ratio than it peers, would be beneficial.

So lastly, don’t get caught in year-end rush. Invest smart and enjoy the twin benefit of Tax saving and capital appreciation.

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