ELSS Funds: 3 Years Lock-In Worth It?

Have you ever planted a seed and nurtured it for three years? ELSS funds are similar to those seeds. In today’s blog, we will uncover how investing in ELSS funds can help you reap the seeds of tax-optimised returns.

ELSS stands for Equity Linked Saving Scheme. ELSS is an equity mutual fund investment that invests at least 80% of its assets in equity and equity-related instruments. Investors choosing ELSS funds as an investment option can claim deductions under Section 80C of the Income Tax Act of up to INR 1.5 lakh. The amount that you invest in ELSS is deducted from your taxable income and helps you pay a lesser amount of income tax. Investments in ELSS attract a 3-year lock-in period.

Some of the important features of ELSS funds are as follows.

1. ELSS funds primarily invest in equity-related instruments of companies with significant growth potential. This means they can generate higher returns as compared to other tax-saving options like the Public Provident Fund (PPF) or National Savings Certificate (NSC).
2. ELSS options can be a go-to option for investors who want to save tax and seek high returns.
3. Gains from ELSS investments after the lock-in period are taxed as long-term capital gains at a rate of 10%.
4. You cannot redeem your investment amount before three years from the date of investment. 
5. Investments in ELSS funds can be done through both lump-sum and SIP.

Read Also: What is an Open-Ended Mutual Fund & How to Invest in it?

ELSS vs Other Tax-Saving Options

Apart from ELSS mutual funds, there are a variety of tax-saving options available to the investors like PPF, NPS, ULIPs, etc. 

Public Provident Fund 

PPF is a debt-oriented, government-backed saving scheme offering guaranteed returns. It is exempted from taxation, i.e., interest earned and the amount received on maturity are tax-free.

However, it comes with a lock-in period of 15 years. Only partial withdrawals are allowed after specific years and offer returns of around 7-8%.

PPF is suitable for risk-averse investors seeking stable returns and is ideal for long-term savings goals.

National Pension Scheme

NPS was introduced by the central government to help individuals have recurring income in the form of a pension after the retirement. These funds are market-linked and invest in equities, bonds and other assets, leading to higher and volatile returns.

NPS invests in asset classes such as equity and related instruments, corporate and debt-related instruments, government bonds, and alternative investment funds. NPS is open to all Indian citizens aged between 18 to 65 years. Investors can claim tax deductions of up to INR 2 lakh. Maturity corpus is partially taxable, while annuity income is fully taxable.

It attracts a lock-in period up till the age of retirement. Only 25% of the invested amount can be withdrawn after three years from the date of investment in case of an emergency.

NPS is suitable for investors who are looking for retirement savings and are comfortable in taking risks.

ULIP

ULIP, or Unit-Linked Insurance Plan, is a financial product that offers both investment and insurance benefits. It provides life cover and an investment component wherein premiums are invested in numerous funds like equity, debt, or hybrid. The policyholder can choose the fund based on their risk appetite. 

Moreover, ULIPs provide flexibility to switch between funds and allocate premiums accordingly. Returns depend on the market performance, which influences the policy’s value. Consequently, it provides the benefit of both, life insurance as well as the wealth creation. In ULIP, you can get a tax deduction of up to INR 1.5 lakh under Section 80C of the Income Tax Act.

The table below shows the difference between ELSS and other tax-saving options:

Particulars	ELSS	PPF	NPS	ULIP
Structure	Equity-oriented	Debt-oriented	Market-linked	Unit-linked insurance Plan
Tax Deduction	Up to INR 1.5 lakhs	Up to INR 1.5 lakhs	Up to INR 2 lakhs	Up to INR 1.5 lakhs
Lock-in period	3 years	15 years	Up to retirement.	5 years
Risk profile	Risk is high because of equity market fluctuations	Low risk and returns are guaranteed	Depends on fund structure	Moderate Risk

Further, there are multiple other tax savings instruments available such as the National Savings Certificate (NSC), Tax saving Fixed Deposit, etc. 

Should I invest in ELSS for 3 years?

Investing in ELSS is entirely depends on the individual preference and financial situation. However, there are some of the benefits of investing in the ELSS funds that you must know:

1. You can claim tax deductions of up to 1.5 lakh.
2. ELSS funds carry the potential for higher returns when compared to other tax-saving investment options.
3. If the investments in ELSS are done through SIP, more units can be purchased when the market falls, lowering the average cost per unit.
4. Unlike PPF and NPS, ELSS has a short lock-in period of only 3 years.

Read Also: Long-Term Capital Gain (LTCG) Tax on Mutual Funds

Conclusion

Whether the three-year lock-in period of ELSS funds is worth it or not, depends on your financial goals. There is no simple yes/no answer to this question. If you can handle market fluctuations, know how to stay calm during market volatility, and are looking for some good tax saving options, then ELSS funds will be a great option for you to choose. 

However, ELSS funds might not be suitable if you have an investment horizon of less than three years. Make sure that you fully understand all the implications before investing in ELSS funds, and remember to do thorough research on ELSS funds. With the right approach, even those 3 years might fly by as your investment grows towards a brighter financial future!

Frequently Answered Questions (FAQs)