Explained: Should You Invest In Tax-Saving ELSS?

ELSS or Equity-Linked Savings Scheme is an investment opportunity of investing in the stock market that takes out the tax bite to give the advantage of tax deductions on the invested amount.

This route can also be done via systematic investment plans. The SIPs can be made with the same benefits: automated, wealth creation, staying invested with the added benefits of tax saving. 

BOOM tells you all you need to know about ELSS. 

Also Read: What Is A Mutual Fund: 7 Things To Know How It Works

What are the benefits of ELSS?

1. Investors can enter the market using a nominal amount. Through the SIP route, you get to invest in the stock market of as low as ₹500.
2. You get to invest in a wide range of individual securities and benefit from portfolio diversification — it reduces your overall investment risk if even one company performs poorly.
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3. Tax savings. When you invest in an ELSS fund, you can claim a tax rebate of up to ₹1.5 lakhs from your annual taxable income under Section 80C of The Income Tax Act and save up to ₹46,800 a year in taxes if you opt for the old tax regime. Moreover, any Long-term Capital Gains up to ₹1 lakh you make from the ELSS investment are exempt from tax.
4. Among all tax-saving investment instruments, ELSS comes with the shortest lock-in period of just three years.
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Also Read: What Is A Systematic Investment Plan Or SIP: 5 Things To Know

Who should invest in ELSS?

ELSS schemes are meant for those investors looking to benefit from both capital gains and tax-saving benefits. 

These are some of the parameters that investors should look out for before opting for an ELSS scheme. 

1. Those who are looking to save up to ₹46,800 a year (tax deductions of up to ₹1.5 lakhs per year)
2. Wanting to achieve both capital appreciation and tax savings
3. An investor wanting to indirectly invest in equities
4. Having the patience to wait for three-years, which is the lock-in period for these investments

How to invest in ELSS schemes?

You can choose to invest in various types of ELSS funds: Growth option, dividend option, and dividend reinvestment option in two ways - a through SIPs or lump-sum mode.

SIP may be a suitable and convenient investment route for all. That's because you are not burdened with investing the entire taxable income at one go and secondly, you benefit from rupee cost averaging.

Then there's the lump-sum method. Let's say you've got a windfall either from a bonus, inheritance, gains from selling assets or any large amount of money. You can use those proceeds to invest in an ELSS scheme in the long run.

ELSS over other tax-saving options

When it comes to comparing ELSS versus other tax-saving options, it all boils down to two important factors: returns and time horizon. Here's how they stack against each other:

By lock-in period:

1. ELSS — 3 years
2. Tax Saving Fixed Deposits — 5 years
3. Public Provident Fund (PPF) — 15 years
4. National Saving Certificate (NSC) — 5 years
5. National Pension Scheme (NPS) — until the age of 60
6. Unit Linked Insurance Plan (ULIP) — 5 years
7. Sukanya Samridhdhi Yojana (SSY) — 21 years

Following are the annual rates of return

1.  ELSS — market-linked
2. Tax Saving Fixed Deposits — 3.50-7.25%
3. Public Provident Fund (PPF) — 7.1%
4. National Saving Certificate (NSC) — 6.80%
5. National Pension Scheme (NPS) — market-linked
6. Unit Linked Insurance Plan (ULIP) — market-linked
7. Sukanya Samridhdhi Yojana — 8.5%

From the information provided above, NPS, ULIP and SSY also offer market-linked returns, similar to ELSS. But then there's the lock-in period – of which ELSS' is the shortest. Another flexibility that ELSS provides is investing through the SIP route, which none of the tax-saving options give.

 Also Read: Explained: Investing In Mutual Funds To Meet Short Term Goals

This story is part of the BOOM Money explainer series on personal finance