Equity Linked Savings Scheme (ELSS) has emerged as an important tool for individuals to save tax. Despite its 3-year lock-in period, it offers a number of advantages. Firstly, the lock-in period is much less compared to an insurance policy or a PPF. Secondly, due to the lock-in period, fund managers do not have to overly worry about liquidity and hence are in a position to take a long-term approach to investing. Thirdly, ELSS is the only tax saving product which helps you build wealth along with tax saving, which substantially increases your effective returns post-tax.
- You spread your investments over the year
- Rupee cost averaging works in your favour
- Your lock-in period starts earlier
- Synchronizing your outflows with inflows
- Inculcate the saving habit early
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The big question that most investors grapple with is whether the investment in ELSS should be done in lump-sum at the end of the financial year or should it be structured as a SIP and done through the course of the year. While the normal practice is to bunch your tax saving investments at the end of the fiscal year, in case of ELSS it makes a lot of sense to adopt a SIP approach to investing. Here is why…
You spread your investments over the year
Lump-sum investing is always difficult as you need to identify the required funds to invest in the last quarter. An SIP approach will ensure that you invest a regular amount each month and this will help you in planning your tax saving better.
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Rupee cost averaging works in your favour
Just as Rupee Cost Averaging works in your favour in any mutual fund investment , similarly, it works in case of tax saving funds. Markets tend to be volatile during the year and this gives you opportunities to buy stock s at lower prices. This is achieved through an SIP on ELSS which gives you 12 entry points during the year instead of just 1 entry point. When you are planning your taxes over a number of years, this tends to work substantially in your favour.
Your lock-in period starts earlier
The 3-year lock in for ELSS starts from the point of investment. If you do a SIP in ELSS, then your lock-in period for your first SIP will be 3 years from the date of that SIP and the same applies to subsequent SIP installments too. In contrast, if you invest lump-sum at the end of the year then your ELSS investment will be locked in for 3 years from that date. By adopting a SIP approach, you are adding flexibility and liquidity to your ELSS portfolio.
Synchronizing your outflows with inflows
This can be a dual advantage for investors. Firstly, an SIP enables you to get the best of the market volatility. Over a period of time, your average cost of holding will be substantially lower than a lump-sum investment. Secondly, this enables you to synchronize your outflows with your inflows. You get your salary or commissions on a regular monthly basis. Therefore matching your earnings profile with your outflow profile enables you to manage your liquidity conditions better.
Inculcate the saving habit early
This has been reinforced by many of the most astute minds in business that creation of wealth is contingent on starting early and letting compounding work for you. An ELSS SIP inculcates the habit of starting your tax planning early during the year so that you do not come under pressure in the final quarter. When you do a SIP, you are matching your outflow with your inflow which forces you to save as a discipline. Instead of saving after spending what you can, you now spend after you save what you can! That makes all the difference. In a nutshell, an SIP in ELSS makes eminent sense for tax planning. This is not only in terms of returns but also in terms of synchronising your flows and creating a saving habit early. You not only plan your taxes more efficiently, but also get more bangs for your buck!
