Should you invest in ELSS for tax savings?

by Kanika Shelatkar Insurance Consultant

As per SEBI mandate mutual fund schemes are broadly classified in the following 5 groups –

· Equity schemes

· Debt schemes

· Hybrid schemes

· Solution oriented schemes

· Other schemes

In equity mutual fund schemes, there are 11 categories. Out of this 11 category of funds, the ELSS funds are the only category by investing in which you can save taxes under Section 80C of the Income Tax Act 1961. You can claim deductions up to Rs 150,000 in a financial year from taxable income by investing in ELSS under the old income tax regime.

ELSS funds are often compared to another popular tax saving scheme, Public Provident Fund. In this article we will analyze them.

Equity Linked Savings Scheme

ELSS is a mutual fund equity scheme which qualifies for tax savings u/s 80C. It has a lock-in period of 3 years. Though there is no upper limit of investments in a financial year but the maximum deduction you can claim is capped at Rs 150,000. ELSS Funds is essentially diversified equity mutual fund, which invests across different sectors and companies. You can invest either in lump sum or SIP. Capital gains made in ELSS are tax exempt up to Rs 100,000 in a FY and taxed at 10% thereafter. There are no assured returns as ELSS is market linked.

Public Provident Fund

Public Provident Fund is a Government Small Savings Scheme. PPF account can be opened in a scheduled commercial bank or in a Post Office. Maximum PPF deposit in a year is capped at Rs 150,000 and the PPF investment matures in 15 years. PPF pays interest on accumulated deposits and accrued interest and offers capital safety since it is a Government scheme. Current PPF interest rate is 7.1%. The maturity proceeds from your PPF account is entirely tax free.

Wealth creation - ELSS versus PPF

Let us see an example - A monthly SIP of Rs 10,000 in Nifty 50 TRI (as an asset class proxy for ELSS) versus PPF over the last 15 years. With a cumulative investment of Rs 18 lakhs, you would have accumulated a corpus of nearly Rs 55 lakhs in Nifty 50 TRI, while the same investment in PPF would have resulted in a corpus of only Rs 34 lakhs. Therefore, in terms of wealth creation potential, ELSS is a much better option (Source: Advisorkhoj Research - 31st October 2021)

Performance of ELSS versus PPF over different investment tenures

You can refer the table below showing the returns Rs 10,000 monthly investment in PPF and Nifty 50 TRI (as an asset class proxy for ELSS) over 3, 5, 7, 10 and 15 years period (ending 31st October 2021). As you can see ELSS created alphas and deliver higher returns over long investment tenures compared to PPF.

Liquidity of PPF versus ELSS

Liquidity is an important consideration for many investors. The minimum tenure of PPF is 15 years, while ELSS funds has lock-in period of only 3 years which makes it the most liquid investments u/s 80C.

We compared ELSS funds versus PPF. Both PPF and ELSS are very popular tax saving investment options. ELSS mutual fund is the best investment options for long term wealth creation.