Many investors seek ways to minimise their tax burden as tax season approaches. One often overlooked option is tax-saving mutual funds. These specialised funds offer a unique opportunity to increase returns while reducing tax liabilities. However, navigating tax-saving mutual funds can be complex for an average investor. So today, we will discuss the basics of tax-saving mutual funds, including what they are, how they work, and the potential benefits and risks involved.
By understanding the ins and outs of tax saving mutual funds, you can make informed decisions about whether they are the right investment strategy for you.
Read Also: Tax Saving Options
- 10 Tax Saving Mutual Funds in India 2024
- What are Tax Saving Mutual Funds?
- How Does Tax Saving Mutual Funds Work?
- Benefits of Tax Saving Mutual Funds
- Features of Tax Saving Mutual Funds
- Who Should Invest in Tax Saving Mutual Funds?
- Conclusion
Topics Covered:
10 Tax Saving Mutual Funds in India 2024
Fund Name | 3-Year Returns | 5-Year Returns | Risk |
Quant Tax Plan Direct-Growth |
35.23% |
27.64% |
Very High |
Bandhan Tax Advantage (ELSS) Fund |
29.33% |
18.79% |
Very High |
SBI Long Term Equity Fund Direct Plan-Growth |
26.24% |
17.69% |
Very High |
Bank of India Tax Advantage Fund |
23.28% |
21.44% |
Very High |
Canara Robeco Equity Tax Saver Fund – Direct Plan – Growth |
20.73% |
18.52% |
Very High |
Mahindra Manulife ELSS Fund |
24.22% |
16.63% |
Very High |
PGIM India ELSS Tax Saver Fund – Direct Plan – Growth |
23.89% |
17.19% |
Very High |
Kotak ELSS Tax Saver Fund – Direct Plan – Growth |
23.35% |
18.24% |
Very High |
Motilal Oswal ELSS Tax Saver Fund – Direct Plan – Growth |
25.22% |
17.37% |
Very High |
Franklin India Taxshield Fund – Direct – Growth |
26.14% |
16.10% |
Very High |
What are Tax Saving Mutual Funds?
Tax saving mutual funds, also known as Equity-Linked Savings Schemes (ELSS), are investment options that offer tax benefits under Section 80C of the Income Tax Act. These funds provide individuals with an opportunity to not only save taxes but also grow their wealth through investments.
What sets these ELSS mutual funds apart from other investment avenues is their allocation of a major portion of their corpus in equity and equity-related instruments. This means that investors have the potential to earn higher returns compared to traditional tax-saving options like fixed deposits or Public Provident Funds (PPF).
However, note that because these funds invest in equities, they also carry a certain level of risk, making them suitable for investors with a higher risk appetite and a long-term investment horizon.
Recommended Read: How to plan your ELSS Investments
How Does Tax Saving Mutual Funds Work?
ELSS tax saving funds invest in a diversified portfolio of equity and equity-related instruments. They aim to provide long-term capital growth while offering tax benefits to investors. One of the key features of these funds is the lock-in period, typically three years.
During this period, investors cannot redeem their investments, ensuring the funds are invested for the long term. These funds qualify for tax benefits under Section 80C of the Income Tax Act, allowing investors to claim deductions on their taxable income.
Tax-saving mutual funds mitigate risk and maximise returns by spreading investments across various sectors. This diversification strategy helps capture opportunities across different market segments and industries, reducing the impact of any downturn in a specific sector.
Recommended Read:- What is Mutual Fund Redemption
Benefits of Tax Saving Mutual Funds
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Tax Benefits:
One of the primary advantages of tax-saving mutual funds is the tax deductions they offer under Section 80C of the Income Tax Act. Investors can claim deductions on their taxable income, reducing their overall tax liability. This not only helps them save money but also encourages long-term investment in productive assets.
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Potential for Higher Returns: Compared to traditional tax saving instruments such as fixed deposits or PPF Account, tax saving mutual funds have the potential to generate higher returns over the long term. By investing in a diversified portfolio of equity and equity-related instruments, these funds aim to deliver capital appreciation and maximise growth opportunities in the market.
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Compounding Growth: Another benefit of tax saving mutual funds is the power of compounding. As investors stay invested for the long term, the returns generated are reinvested, leading to exponential growth over time. This compounding effect can significantly enhance the overall value of the investment and help achieve long-term financial goals.
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Flexibility in Investment: Tax saving mutual funds allow investors to choose between dividend and growth options. The dividend option provides regular income through dividends, while the growth option focuses on capital appreciation. This flexibility allows investors to align their investment strategy with their financial objectives and risk appetite.
So, tax saving mutual funds provide a range of benefits, including tax deductions, the potential for higher returns, compounding growth, and flexibility in investment options. These funds help save taxes and offer the opportunity to build wealth over the long term.
Features of Tax Saving Mutual Funds
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Lock-in Period:
Tax saving mutual funds come with a mandatory lock-in period of three years, which means investors cannot redeem their units before this period. This feature promotes long-term investment and discourages impulsive decisions based on short-term market fluctuations.
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Tax Benefits:
As mentioned earlier, tax saving mutual funds offer tax deductions under Section 80C of the Income Tax Act. This means that the amount invested in these funds can be deducted from the taxable income, resulting in lower tax liability for investors. However, note that tax laws may change, and investors should consult a tax professional for the latest updates.
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SIP Investment Option: Best tax saving mutual funds
provide the convenience of Systematic Investment Plans (SIPs), allowing investors to invest smaller amounts at regular intervals. This helps build a disciplined investment approach and reduces the burden of investing a lump sum amount at once.
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Risk Factor Due to Equity Exposure: Tax saving mutual funds predominantly invest in equity and equity-related instruments to maximise returns. While this offers the opportunity for higher growth, it also exposes investors to market fluctuations and associated risks.
Additionally Read: Mutual Funds & its Basics
Who Should Invest in Tax Saving Mutual Funds?
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High tax bracket individuals: Tax saving mutual funds are particularly beneficial for individuals who fall under higher tax brackets. By investing in these funds, they can avail of the tax deductions offered under Section 80C, reducing their overall tax liability. This makes it an attractive option for professionals and high-income earners.
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Long-term investors: Tax-saving mutual funds have a lock-in period of three years. This makes them ideal for individuals with a long-term investment horizon and willing to hold their investments for a significant period. By staying invested for the lock-in period, investors can potentially benefit from the power of compounding and achieve higher returns.
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Risk-tolerant investors: Tax-saving mutual funds primarily invest in equity-related instruments, which means they carry a certain level of risk. Investors willing to accept the volatility of equity investments in exchange for higher returns can consider investing in these funds. It is important to note that past performance does not indicate future results, and investors should carefully assess their risk tolerance before investing.
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Individuals looking for tax-efficient wealth creation:
Tax saving mutual funds offer tax deductions and the potential for wealth creation over the long term. By investing in equity-related instruments, these funds have the potential to generate higher returns compared to traditional tax-saving options like fixed deposits or the Public Provident Fund (PPF). This makes them an attractive option for individuals who want to save tax while aiming to grow their wealth.
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Diversification seekers:
Tax-saving mutual funds typically invest in a diversified portfolio of stocks across various sectors. This helps spread investment risk and reduce the impact of a downturn in any particular sector. Investors seeking diversification in their investment portfolio can consider allocating some of their funds to tax-saving mutual funds.
Recommended Read: Guide for Online Tax Filing
Conclusion
It is important for individuals considering tax-saving mutual funds to carefully evaluate their financial goals, risk appetite, and investment horizon before making any investment decisions. Consulting with a financial advisor or professional can provide personalised guidance and help select the right tax-saving mutual funds that align with individual investment objectives.