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Do Mutual Fund Investments Provide Tax Benefits?

By Author: Shashank Pawar
Total Articles: 33

Most investors looking for saving tax at year end forget to consider Equity Linked Saving Schemes (ELSS) that offer a lower lock-in period and a potential for higher return as compared to other financial products meant for saving taxes. These are a kind of equity mutual funds that are the best tax saving options for young working professionals.

With the tax season approaching, you must be busy looking for ways to reduce your tax liability whether it is by topping up your PPF account or buying a medical insurance that can save some tax. But is saving tax by a few thousands the only thing that you want to look for while investing your hard-earned money into these avenues or would you like the dual benefit of saving taxes and also earning a handsome return from the money invested? Tax saving mutual funds or Equity Linked Saving Schemes (ELSS) as they are popularly known are offered by mutual funds and are a good option to consider if you are a young, salaried individual who isn’t staring at retirement in the next 5-10 years. These funds are eligible for tax rebate under Section 80C of the Indian IT Act. These funds invest in equities like any other equity mutual fund and come with a lock-in period of three years. So if you fall under the 30% income tax bracket and you invest Rs.1.5 lakh in such funds, you can get a tax benefit of Rs.45,000 in a year while your 1.5 lakhs is earning you a handsome two digit return that is higher than what you would otherwise get from a fixed deposit or a PPF account.

Since these funds have a lock-in period of three years, you will not be tempted to sell your investments in the short-term if you find the market turbulence to be rocking the peace of your mind. Thus, you escape the short-term capital gains tax that many investors are subject to who jump into the equity bandwagon with the aim to make a few quick bucks without the patience which the asset class demands. These investors fail to appreciate the long-term benefit of staying invested that helps you enjoy the power of compounding and they have no idea on the toll mutual fund taxation takes on their returns because of frequent portfolio changes in the short-term.

Investors do not realize the negative impact of tax on mutual funds esp in the light of STT (Securities Transaction Tax) and short-term capital gains tax that can reduce the portfolio return. Hence the lock-in period of ELSS funds is a blessing in disguise for such investors. While tax saving funds like ELSS help you save tax annually, they are also a good option for retail investors who want to experience equity investing but have a low risk appetite. Since these funds come with a lock-in, they can help such investors ride the volatility inherent in equity mutual funds. While these funds offer a 3-year lock-in period, it is however advisable to stay invested in such funds for at least 5 years to experience the benefits of long-term equity investing. This also helps you save taxes during those five years.

Given the three distinct benefits ELSS mutual funds offer i.e saving taxes, potential for higher return and a lock-in of 3 years which is lower than that of other tax saving products like PPFs and long-term FDs, investing regularly in ELSS funds through SIP would be a wise decision.

You can visit one of best the investor education website on mutual funds, Mutual Funds Sahi Hai, to learn more about Tax saving mutual funds or Equity Linked Saving Schemes (ELSS), their benefits and how to invest in them.

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