Things to Know Before Investing in ELSS

1. Understand the Lock-in Period:

ELSS funds come with a mandatory lock-in period of three years. This means once you invest, you cannot withdraw the funds for at least three years. While this is shorter compared to other tax-saving instruments like Public Provident Fund (PPF) which has a 15-year lock-in, it still requires you to be comfortable with not accessing your money for this duration.

ELSS has the shortest lock-in period among tax-saving investments under Section 80C of the Income Tax Act. The Public Provident Fund or PPF has a lock-in period of 15 years. The other investment avenues like National Saving Certificates (NSC) have a minimum lock-in period of five years. The ELSS fund offers the shortest lock-in period, coupled with the possibility of higher returns. You can invest and claim a tax deduction up to Rs 1.5 lakh a year. 

2. Moderately high risk in nature:

ELSS funds, being an equity-oriented scheme, invest mostly in equity and equity-related securities. Equity funds carry a higher risk of fluctuation in Net Asset Value (NAV) as they are exposed to market volatility. Owing to this, ELSS funds may seem a risky proposition to some investors. However, this should not deter you from taking the benefit of such investments.

The trick here is to stay invested for a longer investment horizon. As compared to other asset classes, equity funds have been found to give above-average returns in the long run.

3. Gateway to equity investing:

ELSS an equity-diversified mutual fund that invests primarily in stocks. It is an ideal way of investing in the stock market as you enjoy the benefits of diversification, professional management and tax saving!

Consider an investment in ELSS through a systematic investment plan or SIP. You can invest in equities without timing the market. The slow and steady approach of investing through SIP imparts financial discipline.

Net Brokers believe that it is an ideal investment to get into the world of equity mutual fund schemes. Since these schemes come with a mandatory lock-in period of three years, investors would get used to the volatility typically associated with the stock market. Thus, giving them more confidence to start investing in other schemes.

4. Maximum Tax exemption limits:

Under Section 80C, there is a limit to the amount of Rs 1.5 lakhs that you can claim for tax deduction in a year. Another important point to keep in mind is that this deduction of Rs.1.5 lakhs is inclusive of other tax-saving investment options covered under Section 80C of the Income Tax Act. If you have investments in PPF for a sum of say, Rs 50,000, then the exemption on your ELSS funds would be Rs.1,00,000 only. So, do the calculations before finalizing your investment amount. Remember, if you invest more than the required amount in ELSSs, you won’t be able to claim extra deduction under Section 80C.

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5. Know the latest Tax implications:

a. During The Lock-in Period

The policyholders can avail of tax deductions over the three years of the investment period, reducing their tax liability. Moreover, in ELSS mutual funds, no tax is implemented on your capital gains during the lock-in period. Hence, all increments that occurred in the value of your investment remain tax-free. 

b. After The Lock-In Period.

Once the lock-in investment period ends, the gains you get from the compounded money, also known as long-term capital gains (LTCG), are eligible for taxation. As per the latest Tax laws, the income from the ELSS funds after three years is taxed at 10% on the profit exceeding ₹ 1 lakh.

6. Availability of SIP option:

Avoid last-minute hasty investments, and start investing for saving tax and other financial goals at the beginning of the financial year. Choose the Systematic Investment Plan (SIP) for regular investments in equities for greater compounding benefits over an extended period. Investing in ELSS through SIP has two benefits. Firstly, you lower the risk by spreading your investments over the year. Secondly, you can get a better average price for your units by investing at different NAVs through the year as compared to investing in lumpsum at one point in time because of rupee cost averaging.

7. Avoid investing in too many ELSS funds:

It’s tempting for investors to invest in a new fund each year and then end up with 7-8 funds in their portfolio.  Multiple investments are tough to track This leads to a portfolio over-diversification which may hurt your returns over the long term. Not only that but having too many ELSS funds will also make it difficult for you to track their performance diligently and leave you with no control over your investments.  Ideally one should have around 1-2 top-performing ELSS funds in their portfolio. You should then track their performance periodically.