When Should You Not Invest in ELSS Funds?
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Introduction:
Say you aim for both tax saving and investment. Thus, when you heard about the ELSS mutual fund, you decided to invest, seeing the short lock-in period, tax deduction and good growth. But after one year, you compare to find the growth of your other mutual fund investment is more than the ELSS mutual fund. Both the mutual fund schemes had similar investments and carried almost equivalent risks. So, was the investment in ELSS wrong? Or was the time of investment in ELSS wrong? Let's understand exactly when is an ELSS suitable.
What is ELSS funds?
ELSS mutual fund comes as a combination of good returns and tax deductions. In a financial year, you can claim a deduction of up to Rs.150000 as per section 80C of the Income Tax Act. ELSS however has a lock-in period of three years. The gains you get after the tenure is treated as long-term capital gains and taxed accordingly. Minimum 80% of this equity-oriented mutual fund is invested in equity and equity-related instruments. You can invest in ELSS funds through lump-sum investment or Systematic Investment Plan (SIP).
As you may be aware, investment in mutual funds can be made anytime during the year. But, ELSS funds being one of the mutual fund schemes, does this apply to ELSS too? Let's understand.
Additional Read: ICICI Direct- Types of mutual fund investments
Can I invest in ELSS at any time?
While ELSS mutual fund is a great way to invest your money and claim the tax deduction, it isn't always the best option. Before investing in an ELSS fund, you should be aware of a few aspects of your investment behaviour, financial needs, and expected returns. As a result, there might be situations where skipping ELSS and opting for other tax-saving vehicles makes sense. Few such scenarios are:
1. When you prefer conservative investment style:
ELSS returns are subject to market risk and volatility that may cause fluctuations in the fund's Net Asset Value (NAV). If you're a cautious investor who prefers to keep your money safe, ELSS funds may not be the best option for you. However, if you can accept this short-term risk, ELSS is a fantastic tax-saving option for you.
2. When your investment horizon is not beyond five years:
Since equities are the underlying asset class in ELSS (with significant exposure to midcaps), it's recommended to hold an ELSS for at least five years if the fund is performing well. Allow your ELSS fund to develop at its own pace. If you expect to need the funds in the next five years, large-cap/hybrid funds are better than ELSS.
3. When you are sufficiently exposed to equities but not to debt:
If you have enough equities but not enough debt, skipping ELSS as part of your section 80 C investments is probably a good idea. In this case, you should avoid ELSS and instead use the 80C limit to invest in debt (PPF, NSC, etc.)
4. When the 80C limit is exhausted:
When investing in an ELSS mutual fund, you can claim a tax benefit of up to Rs.1,50,000 under section 80C. So, if you've already depleted your section 80C limit by investing Rs.1,50,000, it's preferable to divert other investments in non-ELSS mutual funds to avoid the three-year lock-in period.
5. When you already hold an ELSS mutual fund:
Many people invest in a different ELSS each year, assuming that it reduces the risk. In other words, if one ELSS fails, the other ELSS will cover. But most of the time, that may not be the best-case scenario. Unless the fund isn't performing as expected, it's better to stick with one ELSS and increase your investment there rather than switching every year.
Conclusion:
ELSS funds are a great way to save money on taxes while also investing in the stock market app. However, because ELSS funds are equity funds, it may appear as you are losing money in the short term, so you shouldn't pick an ELSS fund solely for the tax benefit. If you need assistance with investment in an ELSS, talk to a financial advisor who would help you make an informed decision.
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