Equity Linked Saving Schemes
Equity Linked Saving Schemes (ELSS) is an investment option that provides tax saving benefits as well as capital gains.ELSS holds the advantage of being the only equity-based tax saving instrument available in the country today and offers tax deduction on investments up to Rs 1,10,000, under Section 80C of the Income-Tax Act. Equity Linked Savings Schemes (ELSSs) are similar to the normal equity diversified schemes that invest across the board and market segments. Features that differentiate ELSS from an open-ended equity diversified scheme are tax saving benefit (deductions under Sec 80C) and a lock-in period of three years. Also, one can invest in these schemes in small amounts through a Systematic Investment Plan and begin with a small fund size to add to this expense (i.e. entry/exit load)
Benefits of ELSS
- Money is invested over a longer period as the ELSS funds have a lock-in period of three years.
- Better returns are achieved as the investment in equity is over a long-term and it prevents from unnecessary withdrawals
- Apart from tax savings, the investor receives Capital gains or high returns
- Small amount even Rs.500 can be invested in ELS through SIPs
- Involves less risk - Investing in ELSS, one cannot run away from equity market risk as equity market is very volatile and fluctuating. One option to minimize risk is to invest in Diversified funds and another option is to trust the fund manager for SIP.
Systematic Investments Plan (SIP) in ELSS
SIP is an option through which the investor can decide to invest a fixed amount on a monthly basis for a fixed period in the scheme(s) of his choice. SIP in an equity fund acts as a tool to create wealth in the long-term.
There are several advantages of opting for a SIP in an equity fund:
(a) Allows the investor to invest even a small fixed sum of money at regular intervals
(b) It reduces risk by making volatility work in investor's favour
(c) It provides the benefit of rupee cost averaging -- investors gets more units at low NAV and vice-versa
(d) Power of compounding allows small amounts to grow into a significant amount in due course of time
(e) Imparts time tested discipline to investing and helps to manage anxiety caused by dips in the market.
It is very simple to operate a SIP -- after the initial account opening it can work automatically through a standing instruction. Investors should not make the mistake of closing the SIP during a bear phase in the market. Markets are cyclical and during a bear phase the investor is able to get more number of units as he is able to buy low. SIP in three to four equity funds should be able to give the investor the necessary diversification.
Risks in ELSS Funds
- Mutual Fund Problem - The Fund Manager is a human being and can do mistakes. He might not always select best stocks.
- Commissions - Fund Manager is trying to help the investor so obviously he will charge some commission. Even if the Fund Manager makes the investor invest in the best funds, the investor has to pay high commissions and thus reducing the profits.
- A Fund Manager cannot perform better than the market. He might miss out on one year and if that happens to be the last year, maturity money will be reduced.
- Investor might invest fewer amounts every year but he has to pay commission to the Fund manager and there is no guarantee that he will perform better next year.