What is Equity Linked Savings Scheme (ELSS)

Published on 15 December 2021
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1. Introduction:

An investor is always in search for something extra over and above his returns. ELSS is such an investment that fulfills his wish. ELSS enables investor to enjoy benefits of capital appreciation as well as tax benefits. In this article we understand ELSS in detail.

2. What is ELSS (Equity Linked Savings Scheme):

ELSS is a type of diversified equity mutual fund, which is qualified for tax exemption up to Rs. 1,50,000 under section 80C of the Income Tax Act. It comes with a lock-in period of three years. An investor cannot redeem or transfer the units to another scheme during the lock-in period. Tax benefits can be claimed for the financial year in which the investments were made in ELSS. There are 36 ELSS schemes currently available in the Mutual Fund market, with more than Rs. 70,000 Crore worth assets under management.

An investment in ELSS can be made lumpsum or through SIP. Though in SIP each investment (SIP installment) has a lock-in period of three years.

Example: If you have made a SIP in an ELSS fund, each installment will have its own 3 year lock-in. So, investment on 1^st Mar, 2019 must be held till 28^th Feb 2022 and investment on 1^st Apr, 2019 must be held till 31^st Mar, 2022 and so on.

3. Features of ELSS:

a. ELSS (Equity Linked Savings Scheme) is a Mutual Fund scheme, and it enjoys all the benefits of investing in a mutual fund.

b. It is a tax savings scheme which majorly invests in a diversified portfolio. It shares similar allocation to that of multicap funds, which makes it one of the most preferred tax saving investment.

c. Amongst all the Tax savings schemes, ELSS has the highest prospective returns.

d. ELSS investments have a lock-in period of 3 years.

e. These investments can be made from Rs. 500 and in multiples thereof.

f. There is no upper limit for investments in ELSS, though the tax benefits are restricted to Rs. 1,50,000 as per Sec 80C of the Income Tax Act. However, the returns on investments attract 10 % LTCG (Long Term Capital Gain tax) if returns earned are more than Rs. 1,00,000

g. The investments can be made Lumpsum or through a SIP (Systematic Investment Plan).

h. An ELSS investment being the one which invests in stock markets is therefore subject to market risks.

4. Key Points to Note while Investing in ELSS:

a. Try to avoid last minute lump sum investments in ELSS funds as they are linked to Equity markets just like other Equity Funds. It is always better to start investing in them in systematic way from the start of a Financial year.

b. You should invest in ELSS funds against your long-term financial goals only. Though these funds have lock-in of three years, you should stay invested even after three years’ period is over. You should redeem these investments only when the goal is near.

c. Many advisors recommend investing in ELSS funds even if Section 80C 1.5 Lakhs limit is reached as the performance of these funds is as good as other large cap or multi cap equity funds.

d. Please take extra care while selecting ELSS funds as, even though they are put in the same basket of Tax Planning, some of these funds are more large cap oriented and others are small/mid-cap oriented. So, select the fund, which suits your risk profile.

e. Always buy Growth plan of ELSS funds as dividend re-investment option will make taxation complicated.

Examples: Franklin India Taxshield Fund is conservative in approach with most allocation to large caps only, Axis Long Term Equity Fund and Birla Sunlife Tax Relief 96 have a balanced approach and have some mid/small-cap allocation too whereas Reliance Tax Saver is an aggressive ELSS fund with higher allocation to mid/small caps.

5. How ELSS is Taxed:

To understand ELSS taxation, please check our article – Equity Mutual Fund Taxation

6. Lock-In for Sip in ELSS Funds:

We know that investment in ELSS schemes is a tax-saving investment. It comes along with yet another benefit for investors, it has one of the shortest Lock-in-period of 3 years.

If you have made a lump-sum investment in ELSS, then the lock-in is a clear-cut 3 years period, but when it comes to SIP investors get confused. Calculation of lock-in works a bit differently in SIP. Let us understand it with the help of one example.

Firstly, always keep in mind, when you make an investment in a mutual fund you are purchasing the units and not the whole investment as we have explained in our article ‘What is Mutual Fund’

Example: Let us say you have started a SIP on 10^th April 2018. So, your investments will be as follows:

10^th April 2018 – 1^st Installment – Rs. 5,000
10^th May 2018 – 2^nd Installment – Rs. 5,000
10^th June 2018 – 3^rd Installment – Rs. 5,000

Here, each of your investment through SIP shall be considered as a separate one and hence, lock in period of 3 years shall be applicable to each SIP Installment separately. Therefore,

1^st Installment shall become available for withdrawal on 10^th April 2021
2^nd & 3^rd Installment shall be available for withdrawal on 10^th May and 10^th June 2021 respectively

Therefore, each and every installment through a SIP shall have a separate lock in for 3 years.