Investing is an integral part of the wealth creation process. Mere savings is not enough, the saved money needs to be invested in the right instruments. Timely and careful investing can do wonders to your portfolio and grow your wealth several times over.

Tax savings investments are those investments that are done to derive some benefits that are offered by the regulatory authorities, which basically serve as an incentive for investments in these funds.

Tax saving investments are typically planned during the last few months of the financial year. Investors need to plan properly while investing to ensure that they fully utilise the Rs. 1.5 lakh limit granted under Section 80C of the Income Tax Act, 1961. Investments should help people in saving tax and enable them to meet their financial goals.

Equity Linked Savings Schemes (ELSS) do offer various advantages but it is important for any investor to be fully aware of their risks also before investing in them in order to understand their suitability given their own risk profile and financial goals.

Let us discuss some advantages of investing in Tax Saving Funds (also known as ELSS)

• Tax-efficient and lucrative in terms of returns compared to other financial instruments.

ELSS funds are among the most tax-efficient investments. The amount invested in an ELSS fund, as mentioned before, can be claimed as a deduction u/s 80C to a maximum limit of Rs. 1.5 lakh per financial year. These are probably the only mutual funds that allow you to save tax and at the same time provide higher returns through equity in the long-run compared to other options such as tax saving bank fixed deposits, although the latter are more secure and provide guaranteed returns.

• Lower tax applicable

ELSS funds have a lock-in period of at least three years. Therefore, returns from an ELSS investment will be treated as LTCG (Long-Term Capital Gains). However, unlike STCG (Short-Term Capital Gains), which are taxed at 15%, LTCG above Rs. 1 lakh is charged at 10% as per the provisions of the latest Budget. Therefore, ELSS funds automatically attract lower tax.

• Lowest lock-in period

Most alternatives to ELSS have a lock-in period of at least 5 years. Some tax savings options come with very high lock-in periods, such as PPF (Public Provident Fund), with a lock-in term of 15 years and the NPS (National Pension Scheme), with a lock-in term extending all the way till retirement i.e. 60 years. Therefore, ELSS funds provide the maximum tax-saving benefits with the shortest lock-in period while providing adequate scope for generating the highest returns. This definitely makes the case for ELSS being a favorable investment tool for a medium-term investor offering significant tax benefits.

• Compounding and higher returns

Being an equity investment, ELSS funds will deliver good returns in the long run. Investing discipline is the key to making good returns, and the three-year lock-in period takes care of this. In the long-run, the investor will benefit from the power of compounding, which will give him/her visibly higher yields in the later years.

• Invest through SIP

SIP (Systematic Investment Plan) is the best way to instill investor discipline. ELSS funds offer the best combination of a long-term horizon and the option to invest through SIP. Learn how to invest, take advantage of the power of compounding, and save tax.

We have thus seen that ELSS funds have many advantages, at the same time, it would be worthwhile to consider the risks associated with these funds also to get a holistic picture.

Let us discuss some important disadvantages which are associated with these funds:-

• Limited tax benefits impacting overall returns

Section 80C of the Income Tax Act, 1961 allows a deduction of up to Rs. 1.5 lakh for investments made in specific avenues. However, the flip side is that this limit is inclusive of all other investments of the taxpayer. Therefore, if the taxpayer has already reached his / her limit u/s 80C vide other relevant instruments, he / she cannot avail additional tax benefits through ELSS funds. Thus, even if you’ve invested Rs. 5 lakh in an ELSS fund, you cannot claim the full amount under tax benefits. A lot of investors find this as a big negative factor of ELSS impacting the overall returns on investment.

• Compulsory lock-in of 3 years

ELSS funds have a lock-in of three years and there is nothing that the investor can do. We suggest that you remain invested in the fund until the equity markets turn around. Investors need to be patient as this can take several years and completion of economic cycles. It has been observed that the chances of negative returns greatly diminish if one remains invested in equities for longer.

• Good returns not guaranteed

In ELSS funds, there is little the investors can do about changes in the tax structure after the investment has been made. Mergers and acquisitions of fund houses happen quite regularly these days and it is possible that the performance of a new fund could deteriorate after the merger. ELSS fund is a long-term investment and choosing the right one becomes important for the investor.

To conclude, invest wisely keeping your risk profile and your financial goals in mind.

Founded in 2005 by new–age entrepreneur Abhishek Bansal, the Abans Group has evolved into a globally diversified conglomerate, providing expertise in Broking Services, Non-Banking Financial Dealings, Financial Services, Agri-Commodity Services, Warehousing, Realty & Infrastructure, Gold Dore Refinery & Manufacturing, Trading in Metal Products, Pharmaceuticals, Software Development & Wealth Management. The Group is a comprehensive financial and non-financial services and solutions provider, aiming to provide end-to-end solutions to its clients.