Equity-linked saving schemes or ELSS are diversified mutual funds where most of its deposits are invested in private companies’ stocks that are equity and equity-related schemes. It is a perfect instrument for steady returns, tax benefits and wealth creation.
A Quick Brief of ELSS
ELSS are mutual funds, where the primary underlying investment is equity. At least 4/5th of the complete investible corpus is invested in the equities of listed companies. The associated stocks can be of different capitalisation across different sectors, private companies, and government undertakings.
ELSS has an essential 3-year lock-in period. During the lock-in period, the ELSS units cannot be redeemed or transferred to another scheme. One can invest in an ELSS both as a lump sum amount and through SIP. SIPs allow you to keep the investment engaged for a longer duration, thereby cushioning the short-term risks of equity and also helps accumulate more units. SIP calculators are great tools to gauge the expected returns of such investment without any confusion or misnomers.
The Extra Edge of Investing in an ELSS
One of the biggest advantages of ELSS is its tax benefit. Under Section 80C of the Income Tax Act, 1961, investments in instruments like ELSS, NSC, PPF are eligible for a cumulative tax deduction of up to Rs. 1.5 lakhs in a financial year. After 3 years of lock-in, if the redeemed ELSS’s capital gain is more than Rs. 1 lakh, the same will be taxed at 10%. The gains up to Rs. 1 lakh are not taxable.
There are other tax saving investment options like the National Savings Certificate (NSC), Public Provident Fund (PPF), ULIPs etc. However, all these instruments have a lock-in period higher than ELSS. Perse, both NSC and ULIPs have a lock-in period of 5 years. One can use tools like PPF calculator and SIP calculator to compare the benefits accruable from these instruments.
The Right Number of ELSS
The equity portfolio of an ELSS comprises around 70 to 100 stocks. If an investor invests in even 6 ELSS, he/she would be hovering around 6000 stocks. In India, around 5000 stocks are listed, out of which roughly 250 make up for almost 905 of the country’s total stock markets. So, investing in 5 or 6 ELSS would cover up almost the whole market capital. The question to ask—is this required?
Covering the complete market capitalisation will earn you the returns of the market index. In that case, one can choose a corresponding portfolio. Why go for ELSS? Also, in doing so, one may invest in the same stocks that are part of varying schemes, thereby generating the problem of overlapping.
ELSS is an ideal fit for a balanced portfolio of risk and return, then. Equities are risk-prone in the short term. One ELSS can’t cover up the risk margins. The objective is to spread the investment across a balanced set of stable and well-performing stocks. Ideally, two to three ELSS units should be enough to arrive at a balanced configuration of risk-return, covering all significant equities of the market.