People prefer investing in stock markets as it offers higher gains. But this comes with a lot of risk as the markets are quite volatile. The market gets affected by many factors like natural calamities, political ups and downs, inflation etc. In addition to these, investments in stock markets are taxed at higher rates.
But there is another better option to invest in equity i.e., ELSS funds. They give higher returns as well as have tax exemptions. This reduces tax liability. This investment is categorised as Capital Gain so it is taxed accordingly.
What are ELSS Funds?
ELSS stands for Equity Linked Savings Scheme. It is a type of mutual fund scheme which majorly invests in stock markets and equity-linked funds. It is known as a tax savings scheme as the investments done in these funds are eligible for tax deduction up to ₹1.50 lakhs under Section 80C.
ELSS Mutual funds require a lock-in period of 3 years. This means that you need to stay invested for at least 3 years. After that, you can redeem the funds. But it is advisable to stay invested in the scheme for a longer period to get maximum benefit.
How do the ELSS Mutual Funds Works?
ELSS funds are a scheme of diversified equity funds. Under this scheme, the mutual fund company collects money from investors and invests in the equity market. The money so collected is invested in stocks of listed companies.
The funds invested aim to maximise capital appreciation in the long run. The fund manager of the scheme selects stocks to invest in after conducting deep research. The scheme has a lock-in period of 3 years after which you can withdraw the funds.
Benefits Of ELSS Funds
Some of the major benefits of ELSS funds are as follows: –
1. Low Investment
You don’t necessarily need a big lump sum amount to start an ELSS investment. You can start investing in ELSS funds for as low as ₹500 through SIP mode. This low-investment option is very convenient for people with low incomes. Also, this is a very good investment option for salaried people.
2. Shortest Lock-in Period
The majority of Tax saving schemes have a lock-in period of 5 years. But ELSS schemes have a lock-in period of only 3 years. In ELSS investments, you get more liquidity due to a short lock-in period.
3. Higher Returns
ELSS Investments offer higher returns as compared to other tax savings options. It serves two purposes i.e., tax savings as well as wealth creation. ELSS funds are eligible for tax deductions up to ₹1.50 lakhs. In addition to this, the long-term capital gain tax is levied in addition to earnings of ₹1 lakh. In this way, dual tax benefit increases earnings. You can use ELSS calculator to estimate the returns you can earn from your ELSS investments.
ELSS funds invest in a diverse group of companies which includes small-cap, mid-cap, and large-cap. So, by investing in ELSS funds your portfolio gets the benefit of diversification.
5. Good Post Tax Returns
The gain from ELSS funds is considered a capital gain for taxation purposes. If your total capital gain is more than ₹1 lakh then the LTCG (long-term capital gain) from ELSS funds will be taxed at 10% only. And if your gain is less than 1 lakh then you don’t have to pay any long-term capital gain.
Capital Gain Taxation on ELSS Funds
ELSS funds carry a lock-in period of 3 years in ELSS funds. So, all investments in ELSS funds are considered long-term capital gain (LTCG). After completion of three years either you can stay invested to redeem the funds.
The ELSS funds get the deduction benefit up to ₹1.50 lakhs under Section 80C. After a deduction of ₹1.50 lakhs, the remaining amount will be taxed at 10% under LTCG without any indexation benefit. This means the benefit of adjusting the principal price after the effect of inflation will not be applicable. But this taxation applies on earning more than ₹1 lakhs only.
Now let’s understand this. Take for example that you have invested ₹5 lakhs in ELSS funds. After the completion of 3 years of the lock-in period, you have redeemed the amount. You have a gain of ₹ 4.84 Lakhs. Now 1.50 lakhs would be deducted from this gain under Section 80C benefit. Gains above ₹1 lakh needed to be taxed so after deducting ₹1 lakh the remaining amount comes to ₹2.34 lakhs. LTCG of 10% would be levied on this which comes to ₹23400.
ELSS funds invest majorly in equity and equity-linked schemes. It’s good for higher gains. It’s one of the best wealth-creation tools with tax benefits. It offers the safety of returns, diversification and can be started with low investment.
Frequently Asked Questions
1. Which is more preferred ELSS or PPF?
PPF is a safe and secure option and it offers assured returns. Whereas ELSS is a risky investment but it offers higher returns. So, if you can take risks to earn high returns then go for ELSS. But if you are risk-averse then it’s advisable to invest in PPF.
2. Are ELSS funds highly volatile?
ELSS funds invest in equity. So, a bit of volatility is expected. But being a mutual fund scheme, they are managed by fund managers. These fund managers take care of the investments and see that investment is not affected by volatility. But then also a bit of volatility can be expected.
3. Is investing in ELSS a bit risky?
Mutual funds carry market risk. So, the equity funds too carry risk. Equity funds invest in stock markets so they are highly volatile and don’t guarantee returns. But if you stay invested for the long term then you can expect good returns from ELSS.
4. Is the ELSS scheme a good option for the long term?
Equity as an asset class has proved to give better returns as compared to other asset classes in the long run. In addition to this ELSS has the shortest lock-in period as compared to other tax saving instruments. So ELSS becomes a good option for long-term investment.