ELSS Mutual Funds: How Equity Linked Savings Scheme Funds Can Help Save Taxes

To build wealth, receive consistent returns, and/or reduce their taxes, investors seek investment options. The market offers a wide variety of investment programs, but the majority of them provide returns that are subject to income tax regulations. Mutual funds that are tax-saving are known as Equity Linked Savings Schemes mutual funds. These are the only mutual funds that save taxes and invest at least 80% of their assets in stocks. With a brief three-year lock-in period, they provide a tax deduction of up to Rs. 150,000 under Section 80C of the Income Tax Act. In this article, we will explain the meaning, features, and tax-saving benefits of ELSS mutual funds.

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Table of Contents

• What are ELSS Funds?

• Features of ELSS Funds

• Tax Benefits of ELSS Funds

• Factors to Keep in Mind Before Investing in ELSS Funds

• SIP or Lumpsum: How to Decide

• Taxation Rules of ELSS Funds

• ELSS vs. Tax-Saving Instruments

• Conclusion

• Frequently Asked Questions

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What are ELSS Funds?

Equity funds that allocate a significant amount of their corpus to equity or equity-related securities are known as ELSS funds. ELSS funds are also referred to as tax-saving schemes since they offer a tax exemption of up to Rs. 150,000 from your annual taxable income under Section 80C of the Income Tax Act. An ELSS fund, as the name implies, is an equity-oriented plan that has a three-year lock-in requirement. To receive tax benefits, a large number of taxpayers have resorted to ELSS programs in recent years. By investing in ELSS programs, you can get up to Rs. 150,000 in tax exemptions. Furthermore, if your income exceeds Rs. 1 lakh, it will be subject to 10% tax at the end of the three years and will be regarded as Long-Term Capital Gain (LTCG).

Features of ELSS Funds

Although ELSS funds have several aspects, the following are the primary characteristics of ELSS mutual funds:

• Following Section 80C of the Income Tax Act, they provide tax deductions of up to Rs 1,50,000 for a fiscal year.

• There are no provisions for an early withdrawal from ELSS funds, and they have a three-year lock-in period.

• Although different fund houses have varying minimum investable amounts, there is no cap on the total amount you can invest in ELSS.

• The only investment that can save taxes and perhaps yield profits that outpace inflation is an ELSS fund.

• The two advantages of investing in ELSS funds are capital appreciation and tax reductions.

• An ELSS fund has some exposure to fixed-income assets, but stocks make up the majority of its holdings.

Tax Benefits of ELSS Funds

Equity-Linked Savings Plans, or ELSS, provide several tax advantages, such as:

• Section 80C Tax Deduction: ELSS investments made within a fiscal year may result in an annual reduction in your taxable income of up to Rs 1.5 lakh.

• Long-Term Capital Gains (LTCG) Tax: Gains on ELSS are subject to the 12.5% LTCG rate on capital gains exceeding Rs 1.25 lakh in a fiscal year.

Factors to Keep in Mind Before Investing in ELSS Funds

A few things to think about while choosing whether to invest in an ELSS mutual fund are as follows:

• Investment horizon: You must have an investment horizon longer than five years to contemplate investing in ELSS funds. To reduce market volatility, you must have a longer investment horizon due to the equity exposure of ELSS funds.

• Returns: Since ELSS funds are solely reliant on the performance of the underlying stocks, you must realize that they do not offer guaranteed returns. However, compared to other tax-saving investing options, a longer investment horizon (more than five years) may yield larger returns.

• Lock-in term: ELSS mutual funds have a three-year lock-in duration. Your investments are required to remain locked in for three years from the date of investment, and you are not permitted to withdraw your money until this time has passed.

SIP or Lumpsum: How to Decide

If you are unwilling to take on more risk, it is best to invest through a systematic investment plan (SIP). You have the chance to invest in a fund over business cycles when you use a systematic investment plan (SIP). It enables you to gain from buying fund units throughout market cycles. You purchase more units when the market is down and fewer units when it is high. As a result, the price you pay for fund units eventually averages out and ends up being on the lower end.

When the markets rise, this will help you because you can realize larger capital gains upon redemption. If you make a lump sum investment, you won't be eligible for this benefit. A lump sum investment is unwise unless there is a bearish trend in the markets, you can take on greater risk, and you have a longer investing horizon. You lose out on the chance to buy fund units during business cycles, which means you have to hold onto your investment for more than five to seven years to see significant returns.

Taxation Rules of ELSS Funds

There is no opportunity to realise short-term profit gains because ELSS assets get locked for three years. You can only make long-term capital gains as a result. Up to Rs 1 lakh in annual gains are tax-free; any additional earnings are liable to 10% long-term capital gains tax.

As previously stated, you can receive a tax deduction on the principal you invest in an ELSS program under Section 80C of the Income Tax Act. Because this is a cumulative deduction benefit, you can use the preceding section to claim a tax deduction of up to Rs. 1.5 lakh for investments made in all of the listed instruments, such as PPF, NSC, ELSS, and others.

Furthermore, a three-year lock-in term must exist for these plans. You thus get long-term capital gains, or LTCG, when you redeem the units. Up to Rs. 1 lakh in a single fiscal year, these gains are exempt from taxes. Any LTCG over this threshold is subject to a 10% tax on gains over Rs. 1 lakh without indexation.

ELSS vs. Tax-Saving Instruments

You can build wealth over time with a variety of tax-saving plans, including FD, PPF, and NSC, to mention a few. However, these programs only offer limited returns. ELSS is unique in this regard because it typically yields larger returns, particularly during periods of market bullishness. In addition to having a three-year lock-in period, ELSS mutual funds are the best option for investments that reduce income taxes. ELSS's post-tax returns are even more alluring than those of any other tax-saving investment choice.

Note: Under Section 80C of the Indian Income Tax Act, you are allowed to deduct up to Rs. 1,50,000 from your total annual income. However, many taxpayers discover that required deductions take up a significant portion of this.

Conclusion

Market risks are there even though ELSS has a minimum equity exposure of 80%, which presents the potential for significant returns. For long-term investors seeking capital growth over time as well as tax advantages, these plans are perfect. However, you must keep several factors in mind before investing in ELSS. It is best to seek advice from expert investors to ensure that your investments are secure and thriving.

Frequently Asked Questions

What is ELSS full form?

The complete name of ELSS is Equity Linked Saving Schemes.

Are capital gains applicable on ELSS?

Yes, there is a 12.5% Long Term Capital Gains Tax on profits over 1.25 lakh in a fiscal year.

How to invest in ELSS funds?

For secure mutual fund investments, you can use TaxBuddy or your broker/bank to purchase ELSS funds.

Is ELSS return taxable​?

Yes, ELSS returns that total more than 1.25 lakh in a year are subject to STCG taxation.

Is ELSS taxable after 3 years?

ELSS is only taxable when you sell and only then if your returns for the fiscal year surpass 1.25 lakh. After three years, it is not taxable.

Why ELSS mutual funds are best for tax-saving options?

Tax deductions and long-term wealth creation are two advantages of investing in ELSS mutual funds. Of all the Section 80C options available for tax-saving investments in India, ELSS funds have the shortest lock-in period—just three years—and the best potential for returns.

Is ELSS risk-free?

The most well-known tax-saving mutual fund is ELSS. This mutual fund primarily makes investments in stocks and equity-related securities of businesses with promising futures. By investing in ELSS, individuals can reduce their tax liability and save money. These are suitable for those who understand the risk associated with the stock class.

Can I draw out my ELSS after three years?

Yes, after a three-year lock-in period, investors can withdraw their money from ELSS funds. A lump sum investment can be retrieved fully after three years. But when it comes to SIP investments, each one needs to last the full three years.

Who should invest in ELSS funds?

First-time investors and salaried individuals can invest in these funds.

What is the ELSS deduction?

Equity-Linked Savings Plans, or ELSS, provide several tax advantages, including tax deductions under Section 80C, which lowers your taxable income by up to Rs. 1.5 lakh annually for investments made during a fiscal year.

Under which section does ELSS come?

The 1961 Income Tax Act's Section 80C regulates the Equity Linked Savings Scheme, or ELSS. Under this clause, people can deduct up to a specific amount from their taxable income for ELSS investments.

What is Section 80C mutual funds?

Section 80C of the Income Tax Act permits tax deductions for mutual funds, particularly Equity Linked Savings Schemes (ELSS).