An equity fund is a mutual fund where predominately investment is being made in equities. As per SEBI guidelines, A fund is covered under equity fund category if 65 % or more value is invested in equities. Direct investment in equities is riskier so one should always prefer to invest in equities via mutual funds and in our view your first mutual fund investment should be through Equity Linked saving scheme, popularly known as ELSS or tax saving funds.
ELSS is a an equity mutual fund in which 80% or more amount is invested in equities and it is also eligible for income tax deduction under section 80C.So it is also known as tax saving mutual funds. However, ELSS have a 3-year lock in period before which you cannot withdraw money from the fund.
Point you should know before investment in ELSS
1. Tax Saving: The Major USP of ELSS is that you will be eligible for deduction under section 80C of the Income Tax Act up to Rs 150000 in a financial year like other saving instrument (PPF, GPF, ULIP etc.) covered under this section. Capital gain from ELSS is also exempted up to One lakh rupee in a financial year as it is covered under Long term capital gain from equities. If you encash your mutual fund partially in each year, then virtually it is a tax free after one lakh exemption each year.
2.Lock in Period: ELSS has a lock in period of just 3 year, which is the least of other investment eligible under tax deduction u/s 80C. Under PPF lock in period is 15 years and Under ULIP and NSC and tax saving Fixed deposit, Lock in period is 5 years. However, equity as an asset class perform well only in longer period so even the lock in period has been fixed for 3 years but our advice to all is that you should keep the money in such funds at least with a time horizon of 7-10 years only.
3.Returns: This is well known fact the higher the risk, higher the return. Equity is riskier investment in short term of period and returns on equities is very volatile but in it has been seen that in longer term it is always gives you more returns than other tax saving schemes. So, if you are ready to absorb the volatility then only you should think of ELSS. Decision in haste always goes wrong. Further ELSS scheme are diversified equity mutual funds and you must be realistic on your expectations of returns from ELSS and it should be around 10-14 % tax free returns.
4.Mode of Investment: Like other mutual funds you can invest in ELSS as lump sum amount or through SIP (systematic investment plan). SIP is always preferable as it will handle the volatility in better way. However, under SIP, each monthly investment under SIP have a three-year lock in period from date of investment. ELSS can be open ended fund or close ended fund. In our view open ended scheme are best as you can stay in them for longer duration and it gives more scope to fund’s managers to adjust investment at right times as these funds have large inflows. Moreover, growth option is always better than dividend option.
5.Timing and selection of Fund: Equities markets are volatile by nature so timing of entry and exit in equities is very difficult job. So, it is always advisable for retail investor to invest in equity markets through SIP mode. Further you must be aware of the fact that past performance is not a surety of return in future. Equity Mutual fund returns are subject to market fluctuations, a fund performing and top of rating chart currently, may not necessarily maintain the same rating/return. So, return must be tracked with respect to scheme’s benchmark to evaluate its performance and it must be evaluated periodically and accordingly decide to new investment or exit from the scheme. Amongst the many unique features offered by reliancesmartmoney.com is the compare feature, which allows investors to evaluate the fundamentals of multiple companies simultaneously.
Hope this will be helpful in understanding the integrities, benefits and risks of the ELSS scheme.