ELSS An Effective Way Of Saving Tax And Earning Returns

There are very few lucrative avenues available to a salaried employee in India thorough which one can save tax at the same time can earn returns. ELSS or the Equity Linked Savings Scheme  is one of them. Under section 80C there are many deductions that a salaried person can claim but ELSS looks quite attractive. In this article we are taking a deep dive into this options and see how this can be beneficial for our tax savings plan as well as how well it plays its part for our financial goals.

First of all let us know, What is an ELSS? ELSS is a type of mutual fund which invests majority of its corpus in equity and equity related products. An investment in ELSS comes with a lock in period of three years and has tax benefits attached to it. It is suitable for investors having a high risk profile as returns in ELSS fluctuate depending upon the performance of the equity market and there are no fixed returns. ELSS schemes are open ended, that is, investors can subscribe to the fund at any day. NAV or the price of the fund is declared on every business day. Investors can exit ELSS by selling it after 3 years. Similar to other equity funds, ELSS funds have both dividend and growth options. Investors get a lump sum on the expiry of 3 years in growth schemes. On the other hand, in a dividend scheme, investors get a regular dividend income, whenever dividend is declared by the fund, even during the lock-in period. For tax purposes, returns from an ELSS scheme are tax free. You can claim upto Rs. 1 lakh of your ELSS investment as a deduction from your gross total income in a financial year under Sec 80C of the Income Tax Act.

That goes the introduction of ELSS. Now, the next question that comes to mind is that if it has risk associated to it as it is an equity product, then how does it score over other options like the PPF (Public Provident Fund) or NSC (National Savings Certificate). Let's take a look at it. Both the PPF and NSC are popular tax savings instruments which are issued by the Government of India. But there are few constraints to it. PPF has a lock in period of 15 years whereas the NSC has a lock in period of 5 years and 10 years. But ELSS has a lock in period of 3 years only. PPF and NSC have a fixed rate of return somewhere close to 8% to 9% whereas return in ELSS varies depending upon the equity market returns, however past performance of some ELSS funds shows an average return of 15% over a period of three years.

But there are risks associated to it. The first and the foremost is that as it is an equity linked instrument, you have to keep in mind the volatility in the markets. Therefore, one  has to remember that whenever you are investing in ELSS it is advisable that you take the SIP rout and that too for a long term and do not think of redeeming it after three years. This advice is because of the study that we have conducted at DSIJ which shows that as the investment horizon increases, the probability of incurring a loss reduces. You can refer to the article "Equity Investments: The Time-Returns Relation" to have a better understanding of how investments in long-term in equities is advisable.

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