Make You Tax Savings Investments Count

It’s that time of the year when many investors start thinking about tax savings investments. Although, it is a proven fact that planning for tax savings investments at the start of the year has many advantages, not many of us follow that practice. No wonder, investors often end up investing in a haphazard manner in order to meet the deadline and lose an opportunity to make their tax savings investments count in terms of improving portfolio returns. 

Considering that different tax savings investment options have different lock-in periods and risk-return profile, these unplanned investments can make investors suffer in more than one ways. For example, one could end up investing in instruments that have much longer lock-in periods and provide much lower returns than other options under Section 80 C. Besides, the habit of investing at the fag end of the financial year puts a lot of financial burden in the form of having to generate a lump sum amount. Hence, by strategizing your tax savings investments and by investing systematically through the financial year, you can save taxes more efficiently and make the entire process less taxing for yourselves.  

Mutual funds have an important role to play in this process. Equity Linked Savings Schemes (ELSS) of mutual funds qualify for tax exemption under section 80C of the Income Tax Act. An ELSS is perhaps the best way to achieve the dual objectives of investing in the stock market thru small contributions and to save taxes while doing so. For investors in ELSS, it is important to know that all contributions (within an overall limit of Rs.1.50 lacs) are eligible for tax benefits and that includes units allotted under dividend reinvestment too. 

As a product category, it has given handsome returns over the years. While, the past performance alone should not be the sole criteria for making an investment, the fact remains that over a period of time equities have the potential to provide better returns compared to other instruments. Needless to say, being equity oriented, these schemes carry all the risks that are associated with an equity investment. However, a three years lock-in period, ensures that one of the major risks i.e. volatility over the short term, is handled efficiently. 

ELSS have the potential to provide better returns than most of the options under Section 80 C. Another notable feature is the tax efficiency in terms of returns earned through them. It is important considering that ELSS also aims to distribute income by way of dividend periodically depending on the distributable surplus.  As per the current tax laws, an equity fund investor is not only entitled to earn tax free dividend but also the long-term capital gains are not taxable. 

ELSS are governed by the guidelines issued by the government. These guidelines have specified the minimum amount to be Rs.500 and thereafter in multiples of Rs.500. Being open-ended, ELSS also allow investors to invest systematically through a Systematic Investment Plan. As per the guidelines, these schemes have to invest at least 80 percent of the corpus in equity and equity related instruments. However, each of the fund houses launching ELSS has the flexibility to decide its own investment strategy. Therefore, you must have a close look at the portfolio composition while selecting a tax savings scheme.

Simply put, it is important to analyze a scheme’s exposure to different segments of the market i.e. large, mid and small cap before investing in it. Though, the past performance can not be ignored, it is equally important to analyze the risk taken by the fund manger in achieving those returns. If the portfolio composition and the investment philosophy of the fund takes you beyond your acceptable risk taking capacity, you would be better off investing in an ELSS that has a well balanced portfolio as well as a consistent performance track record. The table below highlights the performance track record of some of the prominent ELSS.