Which is a Better Tax Saver: NPS or ELSS
Effective tax management is a skill; once you master it, you will be able to handle most of your financial problems. Thus, people must be aware of the different paths and strategies they can take to lower their tax obligations.
To achieve their financial objectives, many individuals invest in Mutual Funds.
Investments in Mutual Funds are more prevalent among people who want to gain from capital growth. Additionally, they gain from the tax deduction provided by Section 80C of the Income Tax Act of 1961. In this article, we will compare two personal investment options – NPS & ELSS, to see which offers the most significant potential for tax savings.
NPS or National Pension Scheme
The central government's National Pension Scheme (NPS) is a voluntary social security program. Therefore, a long-term investment horizon is appropriate for this voluntary retirement plan. The Central Government and the Pension Fund Regulatory and Development Authority (PFRDA) oversee this program. All workforce members, including those in public, private, and unorganized sectors, are eligible for this program.
The NPS program encourages people to begin retirement savings to amass a sizeable corpus. Investors can withdraw a particular portion of their corpus upon retirement and place the balance in an annuity. As a pension, they will get a certain amount each month; moreover, investors have a selection of annuity plans from PFRDA.
Advantages of NPS
- Versatile – To plan the growth of investments responsibly and keep track of the expansion of the pension corpus, NPS offers a variety of investment opportunities and a selection of Pension Funds (PFs).
Subscribers can switch from one investment option or fund manager to another.
- Portable – NPS offers effortless portability between occupations and areas. In contrast to several pension schemes in India, it would allow individual subscribers to move to a new job or location without worrying about abandoning the corpus built up.
- Convenient & Instant Access – You can manage your NPS account online. Additionally, the eNPS portal allows users to create an NPS account.
- Well Monitored & Managed – NPS is subject to PFRDA regulation, and NPS Trust regularly monitors and evaluates the performance of fund managers. As a result, they are the lowest comparing NPS's account maintenance fees to those of similar pension products offered worldwide.
Cost is crucial when saving for a long-term objective like retirement because fees can significantly reduce the corpus over a 35–40-year investment period.
- Dual Benefit – Pension wealth generation gradually increases with a compounding reaction until retirement. Due to the low account maintenance fees, the subscriber eventually benefits significantly from the accumulated wealth created from the pension.
ELSS or Equity Linked Savings Scheme
The Equity Linked Savings Scheme, also known as ELSS, is an open-ended mutual fund program that primarily invests in equity and equity-related tools, allowing investors to reduce their taxable income. The long-term goal of supporting ELSS is wealth creation and tax savings.
The returns generated by this scheme are market-linked, so they cannot be guaranteed. Nevertheless, ELSS funds have gained popularity recently among investors because they can produce higher returns than conventional tax-saving instruments. Therefore, investors with a long investment horizon would be better suited for this scheme.
Advantages of ELSS
- Tax Benefits – Under section 80C of the Income Tax Act, the amount invested in an ELSS fund is eligible for a tax deduction of up to $150,000 for the current fiscal year. This one is the only method that permits tax savings while generating high returns from equity fund investments.
- Low Lock-In Period – ELSS has a lock-in period of three years, whereas other tax-saving options require a minimum of five years. This time frame is the shortest compared to other tax-saving options like a PPF's 15-year term or a fixed-deposit option's 5-year term. As a result, ELSS offers the highest returns with the shortest lock-in period.
- Greater Returns – ELSS funds generate higher returns (15–20%) than other tax-saving options (typically 7–10%) because they invest in equity schemes. In addition, the advantages of compounding and returns from equity over three years give investors higher returns.
ELSS typically offers returns in the range of 15% to 20%. This provides the most significant tax savings among other options, including FDs with a 5-year term and PPF.
- Advantages of Compounding – Generally speaking, investing in equity funds for an extended period (5–10 years) is advised. Due to the lock-in period, ELSS funds automatically result in a disciplined long-term investment. In addition, this process helps long-term investors to gain from the power of compounding.
- The Option of SIP – Investors can choose the SIP option when investing in ELSS. It enables the investor to make periodic/regular investments of a fixed amount. This allows the salaried class to periodically invest a fixed amount from their savings, typically once per month.
Critical Differences Between NPS & ELSS
NPS and ELSS are two different products with utterly other uses. So, let us examine the main variations between the NPS vs ELSS.
|
Characteristics |
NPS |
ELSS |
|
Lock-In Period |
NPS is guaranteed until retirement or until the age of 60, whatever comes first. |
Whereas, the lock-in period for ELSS is three years. |
|
Minimal Yearly Investment |
The minimum yearly investment for a Tier-I account for NPS is ₹1000 (pension), and for a Tier-II account, ₹250. (investment). |
ELSS typically demands a minimum investment of ₹500 in the form of a lump sum or SIP (each SIP must be ₹500). |
|
Tax Advantages |
There are ₹1.5 lakh worth of tax benefits available to NPS subscribers. In addition, there is also an additional tax benefit of up to ₹50,000 available. |
Tax benefits of ₹1.5 lakh are available on ELSS investments. |
|
Option of Premature withdrawal |
Within a specific limit and with the condition of purchasing an annuity, funds can be withdrawn prematurely. |
Because ELSS have a three-year lock-in period, funds invested in them cannot be withdrawn prematurely. |
|
Level of Risk |
Market risks applicable. |
Market risks applicable. |
|
Fields of Investment |
It is invested in Government Securities, Corporate Debt, Equity, and alternative investment funds. |
At least 80% of the corpus is invested in Equity Stocks. |
|
Taxability |
If annual long-term capital gains from equity-oriented mutual funds and equity shares total more than Rs. 1,00,000 for all equity mutual funds, including ELSS, a 10% LTCG tax is due. |
While 60% of the corpus withdrawn in one lump sum is tax-free, the remaining 40% of the corpus would need to be forcedly used to purchase an annuity plan. The annuity you receive is subject to taxation in the year you receive it at your current tax rate. |
ELSS vs NPS : Which is The Better Approach?
We advise you to choose investments that best suit your needs.
- NPS – For long-term objectives like retirement planning, NPS is more appropriate. They typically offer stable returns, in contrast to ELSS. The NPS program, however, has a lock-in period that lasts for 60 years.
Additionally, investments in NPS are eligible for tax deductions under Income Tax Act Sections 80C and 80CCD. - ELSS – ELSS funds are helpful for both immediate and long-term objectives. They also provide greater returns than NPS. They also pose a greater risk than NPS, though.
In contrast to NPS, ELSS funds have a shorter lock-in period of three years, and investments are eligible for tax deductions under section 80C.
As a result, as an investor, you should determine your financial objectives so that you can choose the investment that is best for you. To select the best investment for you, you can also seek the assistance of financial advisors.
Conclusion
Finally, even though both NPS and ELSS provide tax deductions, NPS has a higher tax deduction cap than ELSS.
Having said that, when deciding between NPS and ELSS, one should consider more factors in addition to tax savings, such as risk tolerance, financial goals, earnings, and others.
Disclaimer: This blog is solely for educational purposes. The securities/investments quoted here are not recommendatory.