Equity-Linked Savings Schemes (ELSS), often referred to as tax-saving mutual funds, stand out as the sole category of equity funds that combine the growth potential of the stock market with tax benefits. In recent times, ELSS funds have gained popularity as a preferred choice for tax-efficient investments.
Key aspects of regarding ELSS funds
1. Composition of ELSS Fund Assets
ELSS funds are managed by allocating a minimum of 80% of their assets in equities and equity-related securities. The balance may be invested in fixed income or money market instruments, depending on the fund’s strategy. Fund managers have the discretion to select funds that align with the fund’s objectives and risk profile, which means a fund targeting higher risk may prefer small-cap funds, whereas a medium-risk fund might lean towards large-cap funds. Read more about ELSS funds Why Should Look at Investing in ELSS through SIP here.
2. The Lock-in Period
Unlike other tax-advantaged investments under Section 80C of the Income Tax Act, 1961, ELSS funds feature a three-year lock-in period, the shortest amongst its peers. This mandatory lock-in period facilitates the potential for compounded returns. For comparison, Public Provident Fund (PPF) accounts have a 15-year lock-in, and National Savings Certificates (NSC) come with a five-year lock-in. The shorter lock-in period, coupled with the possibility of market-linked returns, makes ELSS funds an attractive option for your tax-saving portfolio.
3. SIP Investments in ELSS
Investing through a Systematic Investment Plan (SIP) Top 5 SIP Investment Mistakes You Should Avoid allows investors to allocate a predetermined amount to mutual funds at regular intervals, emphasizing the disciplined approach towards long-term wealth creation. This strategy is beneficial, especially during market downturns, as it enables investors to purchase more units at lower prices, thereby reducing the average cost over time. Each SIP installment in an ELSS fund is subject to a separate three-year lock-in period from the date of investment.
Here is an example to help you understand:
- Installment #1: Rs,10,000 on January 01, 2022
- Installment #2: Rs.10,000 on February 01, 2022
- Installment #3: Rs.10,000 on March 01, 2022…and so on.
The lock-in period for the above-mentioned installments will be as follows:
- Installment #1: Lock-in up to January 01, 2025
- Installment #2: Lock-in up to February 01, 2025
- Installment #3: Lock-in up to March 01, 2025
4. Diversification in ELSS Portfolios
While contemplating the number of ELSS funds to include in your portfolio, it’s crucial to balance tax savings with strategic planning for investments. Accumulating multiple ELSS funds from various AMCs without regard to their risk profiles or objectives may lead to unnecessary exposure within a single asset class. One should carefully select ELSS funds that complement your overall investment strategy and contribute to a well-diversified portfolio.
5. Understanding Risk Levels
The risk associated with ELSS funds is akin to that of equity investments. Fund managers design ELSS offerings to cater to a wide range of investor risk appetites. It’s essential to align your choice of ELSS fund with your investment goals and risk tolerance.
Conclusion
For investors aiming for long-term growth while optimizing their tax savings, ELSS funds offer a compelling choice. With a variety of funds available, thorough research and a clear understanding of your financial objectives are key to selecting the right ELSS fund for your portfolio.
