Mutual funds are one of the most sought-after investment avenues when it comes to generating an alternate source of income. However, to a newcomer, the different terms associated with mutual funds could often be confusing.
One such confusion is between Systematic Investment Plan (SIP) and Equity Linked Saving Scheme (ELSS). While ELSS is a vehicle to invest in tax saving mutual funds, SIP is the manner in which this investment can be made.
ELSS and SIP are two very different concepts.
Equity-linked savings schemes (or ELSS) is a type of mutual fund which primarily invests in equities. ELSS funds offer higher returns due to investment in the equity market, along with dual tax benefits under Section 80C of the Income Tax Act as well as tax benefits on long-term capital gains (LTCG) in Equity.
While ELSS is a mutual fund scheme which invests in equity-linked securities, SIP is just a method of investing. Therefore, SIPs can be fixed on all kinds of mutual funds, including ELSS.
Therefore before deciding whether it is an ideal option to invest in ELSS through SIP for saving tax, consider the following:
- Ignore people talking about the advantages of SIP. SIP is great but it’s a cash flow strategy (meaning that you invest through a SIP if you don’t have a lump sum amount of money right now) rather than an investing strategy (rupee cost averaging, etc.). SIP does not help you average investments over time as say the 12th instalment has little effect on your average across all 11 instalments already debited.
- While everybody is blindly recommending you to invest in ELSS for tax saving, that decision is not so straightforward. While choosing the most ideal tax saving option, there are two things you need to consider:
1. The Amount
of tax saving investments you need to do (This is a function of your taxable income and also the fact that 80C Investments like ELSS, PPF, Life Insurance, etc. all combined have to upto a maximum of Rs. 1,50,000 )
2. The Right Product
that you should use (This is a function of expected returns, risk involved and lock-in period)
Also, keep in mind the following for ELSS:
- ELSS has a lock-in of 3 years, so you can’t withdraw your money before that.
- Taxation is the same as normal equity taxation.
- You can invest in ELSS via lump sum or SIP. The total investments you make from April to March constitute the investment for the particular fiscal year.
- The amount you invest is not the amount of tax you save, it is the amount which is deducted from your total taxable income. For eg. if you invest 1,00,000 in ELSS funds your taxable amount reduces by that and based on the tax slab you are under, you save on a corresponding amount of tax.
Here is a contrarian pick on ELSS suggested by Moneyjar.
Instead of the usual Tax Saving Funds recommendations like the Aditya Birla Tax Relief 96 Fund, Axis Long Term Equity Fund, DSP Tax Saver and the likes, we recommend a highly undervalued ELSS fund:
ICICI Long Term Equity Fund
Undervalued Portfolio. This may not have been an out-performer in the past years but we believe it will outperform in the future. Which is what matters!
A good investment made is a job half done. You should periodically monitor your portfolio and the individual funds to check if they conform to your initial investment thesis.
Do visit our online platform, Moneyjar where we pick mutual funds for you to invest in using a similar thought process and not only advice you and help you make investments online, but also constantly monitor your portfolio to ensure you are on track.