While tax planning may seem to be a difficult process, Mutual Funds offer you a simple way to get tax benefits, while aiming to make the most of the potential of the equity markets. Therefore, the question how to save tax should not bother you much!
An Equity Linked Savings Scheme (ELSS) is an open-ended Equity Mutual Fund that doesn’t just help you save tax, but also gives an opportunity to grow your money. It qualifies for tax exemptions under section (u/s) 80C of the Indian Income Tax Act 1961. ELSS mutual funds are essentially diversified equity mutual fund schemes, which invest in a diversified portfolio of stocks across different sectors and market capitalization segments for generating capital appreciation for investors over a sufficiently long investment horizon.
How do deduction under the Section 80C work
Those who are worried about how to save tax, should note that when you invest in certain schemes like ELSS mutual funds, Public Provident Fund (PPF), tax savingbank fixed deposits etc. you can claim up to Rs.150,000 as a deduction from your gross total income in a financial year under Section 80C of Income Tax Act, 1961.
The Table below will help further explain how this works –
|Particulars||Without the tax saving||With tax saving|
|investments u/s 80C||investments u/s 80C|
|Gross total income||Rs 700,000||Rs 700,000|
|Exemption u/s 80C||Nil||Rs 150,000|
|Total income||Rs 700,000||Rs 550,000|
|Tax on total income||Rs 65,000||Rs 35,000|
|Tax saved amount||Nil||Rs 30,000|
(Illustration of Tax exemption for an individual less than 60 years in receipt of salary income for the assessment year 2018-19)
From the above chart you can see that instead of worrying about how to save tax, if you invest Rs 150,000 in any investment option including ELSS funds under Section 80C, you can save substantial amount of taxes.
Why should you invest in ELSS mutual funds?
- By investing in ELSS funds you get an opportunity to grow your money by investing in the equity market. In the last 5 years, ELSS mutual funds as a category has given an average return of over 18% annualized (source: Valueresearchonline)
- Long term capital gains received from ELSS mutual funds are tax free upto 31/3/18. However, Budget 2018 has introduced long term capital gains (LTCG) tax of 10% if your total profit is over Rs 1 Lakh in a financial year (FY). There is no capital gains tax if the total profit is less than Rs 1 Lakh in a FY.
- ELSS has the least lock-in period, i.e. only 3 years compared to PPF which is 15 years and NSC and bank fixed deposits which is 5 years.
- You can also opt for Dividend Payout option, thereby realizing some potential gain during the lock-in period of 3 years. However, it must be noted that any dividend payment will be from the NAV of the Scheme and therefore, the NAV of the scheme will fall to the extent of dividend payment. Also dividend payment is subject to availability of distributable surplus and at the discretion of the fund manager.
- If you do not have lump sum amount in hand and worried about how to save tax, you may invest through systematic investment plan (SIP). SIPs help you invest a fixed amount every month on a fixed date. This brings a sense of discipline in you without having to worry about investing a big amount at the end of the financial year
Features of ELSS and other tax saving instruments under Section 80C
Now that you know how to save tax, let us see the features of ELSS mutual funds and other tax saving instruments under Section 80C of The Income Tax Act 1961.
|Investment option||Lock-in period||Returns||Tax on returns|
|Bank Tax Saving Fixed Deposits||5 years||6.00%||Taxable|
|National Saving Certificate (NSC)||5 years||7.80%||Taxable|
|Public Provident Fund (PPF)||15 years||7.80%||Tax Free|
|Equity Linked Saving Scheme category||3 years||13.09%||LTCG Tax #|
|1) Bank FD rates – leading PSU banks 2) NSC rates – indiapost.gov.in|
|3) PPF – Ministry of Finance|
|4) ELSS Category return of 3 years – CRISIL Mutual Fund ranking Report Dec 2017|
|# LTCG @10% if the total long term capital gain in a FY is above Rs 1 Lakh|
As you can see in the above chart the feature of ELSS Mutual Funds are most attractive as it has the least lock-in period of 3 years, the potential returns are more than the returns of any other tax saving investment options and also that the returns of ELSS mutual funds are tax efficient.
Therefore, knowing how to save tax is important but knowing where to invest for saving taxes is even more important.
Even though the investments in ELSS mutual Funds are subject to market risks, they are one of the best tax saving investment options for investors with a long investment horizon. As we have already seen that ELSS funds as a category has given annualized returns of over 18% in the last 5 years (Source: Valueresearchonline.com) which is much higher compared to the fixed return tax saving investments like, PPF, tax saver FDs and NSC etc.