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ELSS Funds or Equity Linked Savings Schemes are also popularly known as tax-saving funds as they are the only equity funds that offer tax benefits along with the benefits of investing in the stock markets. In recent years, ELSS funds have evolved as a preferred tax-saving investment option. In this article, we will share some important things that you need to know about ELSS funds.

1. Asset Composition of ELSS Funds

The fund manager of an ELSS fund allocates at least 80% of the fund’s assets in equity and equity-related instruments. The remaining portion can be invested in fixed-income or money market instruments based on the scheme. Further, fund managers can choose the kind of stocks they want to invest in based on the objective and risk level of the fund. So, an ELSS fund with a High level of risk might invest more in small-cap stocks as compared to a Medium-risk ELSS fund that invests more in large-caps. 

2. Lock-in Period

Most investments offering tax benefits under Section 80C of the Income Tax Act, 1961, have a mandatory lock-in period. ELSS funds have a lock-in period of three years which is lowest compared to other investments under the section. Hence, you cannot redeem the units of an ELSS fund before the completion of three years. This helps in generating compounded returns. To offer perspective, other investments under Section 80C like PPF has a lock-in of 15 years and NSC has a lock-in of five years. Hence, ELSS funds with the least lock-in and potential to generate market-linked returns make them worthy of consideration for inclusion in your tax-saving investment portfolio.

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3. Invest in ELSS Funds Through SIP

A Systematic Investment Plan or SIP is a way to invest small amounts in mutual funds regularly. It allows you to benefit from Rupee Cost Averaging to bring down the average cost of purchase of the mutual fund units. While SIPs are generally considered to be a good way to start investing, it is particularly beneficial when the markets are falling. In a SIP, you invest a fixed amount at regular intervals and buy units at the prevalent NAV. So, if the markets are falling, you purchase more units progressively bringing the average cost of purchase down. This removes the risk of investing in a lump sum when the markets are at their peak.

In an ELSS fund, the lock-in period is applicable to every purchase. Hence, if you have opted for a SIP with a monthly frequency, then the investment made every month has a lock-in of three years starting from that month. Here is an example to help you understand:

  • Installment #1: Rs,5000 on January 01, 2021
  • Installment #2: Rs.5000 on February 01, 2021
  • Installment #3: Rs.5000 on March 01, 2021…and so on.

The lock-in period for the above-mentioned installments will be as follows:

  • Installment #1: Lock-in up to January 01, 2024
  • Installment #2: Lock-in up to February 01, 2024
  • Installment #3: Lock-in up to March 01, 2024

4. Avoid Adding Too Many ELSS Funds To Your Portfolio 

Should you invest in one ELSS fund or more?

How many should you ideally buy?

When it comes to tax-saving investments, most people only focus on saving tax and ignore the impact on their investment portfolio. Hence, they buy units from a new scheme from a different AMC every year. Some investors don’t even care about the risk level or other aspects of the scheme since they are only concerned with saving tax. As a result, after a few years, they have multiple ELSS schemes in their portfolio. If these investments are not planned carefully, then you can end up with multiple ELSS funds within one category, creating over-exposure. Hence, investors must ensure that they are aware of the type of ELSS funds they are buying every year and create a diversified portfolio. 

5. Risk level

Since ELSS funds primarily invest in equity and equity-related instruments, the risks are similar to those associated with investing in stocks. However, this does not necessarily mean that all ELSS funds are high-risk schemes. Fund managers offer ELSS funds with different risk levels to cater to different types of investors. While investing, it is important to remember that high risks are usually associated with high potential returns. Ensure that you choose investments based on your financial goals and investment plan.

Now that you have decided to invest in ELSS Funds, here is a list of the best ELSS Funds of 2021 

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Conclusion

ELSS funds are a good option for investors with a long-term investment horizon looking to seek exposure to the stock markets and save taxes. There are various ELSS funds available. Research your options and ensure that you choose a fund that works in sync with your financial plan while helping you reduce your tax liability.

FAQs

Q. Is there any exit load for ELSS Funds?

  1. No, ELSS funds do not have an exit load. You can go through the scheme-related documents to check loads before investing.

Q. How do ELSS Funds work?

  1. ELSS mutual funds are equity funds that primarily invest in equity and equity-linked instruments and offer tax benefits under Section 80C of the Income Tax Act, 1961.

Q. Which is the best ELSS fund?

  1. ELSS funds are designed for investors with different risk tolerance levels and investment preferences. Also, being market-linked, their performance depends upon the market cycle and the investment strategy adopted by the fund manager. Hence, you can find the best ELSS fund you need to look at the holdings, financial ratios, and compare performance.

Q. What is the difference between ELSS and other mutual funds?

  1. There are two primary differences between ELSS and other mutual funds:
  1. ELSS funds offer tax benefits under Section 80C
  2. ELSS funds have a lock-in period of three years

Q. How can I begin investing in ELSS funds?

  1. You can invest in ELSS funds via the AMC, brokers, or investment platforms like Groww. You need to open an investment account and complete the KYC formalities as mandated by SEBI.
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Investment in securities market are subject to market risks, read all the related documents carefully before investing. Please read the Risk Disclosure documents carefully before investing in Equity Shares, Derivatives, Mutual fund, and/or other instruments traded on the Stock Exchanges. As investments are subject to market risks and price fluctuation risk, there is no assurance or guarantee that the investment objectives shall be achieved. NBT do not guarantee any assured returns on any investments. Past performance of securities/instruments is not indicative of their future performance.