Have You Started Investing For Tax Savings?

Many investors make the mistake of not making tax savings investments a part of their overall investment program. As a result, they end up investing in a haphazard manner and that reflects in returns they earn on these investments. Considering that different tax savings investment options have different lock-in periods and risk-return profile, these unplanned investments can make investors suffer in more than one way. It is quite common to see investors investing in instruments that have much longer lock-in periods and provide much lower returns than other options under Section 80 C. Besides, the habit of investing at the fag end of the financial year puts a lot of financial burden in the form of having to generate a lump sum amount. Hence, by strategizing your tax savings’ investments and by investing systematically through the financial year, you can save taxes more efficiently and make the entire process less taxing for yourselves.

With less than five months to go in the current financial year, it’s time to start planning for tax saving. While it may sound uninspiring, the fact remains that even tax savings’ investments require a proper strategy. Remember, good tax planning starts with calculating your tax liability and identifying your risk profile to decide on the kind of instruments you should be investing in. This can go a long way in getting the best that specified instruments under Section 80C have to offer. Remember, investment limit under Section 80 C has been hiked to Rs 1.50 lakh from the current financial year.

Mutual funds too have a role to play in this process. Equity Linked Savings Schemes (ELSS) of mutual funds qualify for tax exemption under Section 80C of the Income Tax Act. An ELSS is perhaps the best way to achieve the dual objectives of investing in the stock market through small contributions and to save taxes while doing so. For investors in ELSS, it is important to know that all contributions (within an overall limit of Rs 1.50 lakh) are eligible for tax benefits and that includes units allotted under dividend reinvestment too.

As a product category, it has given handsome returns over the years. While the past performance alone should not be the sole criteria for making an investment, the fact remains that over a period of time equities have the potential to provide better returns compared to other instruments. Needless to say, being equity-oriented, these schemes carry all the risks that are associated with an equity investment. However, a three years’ lock-in period ensures that one of the major risks i.e. volatility over the short term, is handled efficiently.

ELSS’ have the potential to provide better returns than most of the options under Section 80 C. Another notable feature is the tax efficiency in terms of returns earned through them. It is important considering that ELSS also aims to distribute income by way of dividend periodically depending on the distributable surplus. As per the current tax laws, an equity fund investor is not only entitled to earn tax-free dividend but also the long-term capital gains are not taxable.

ELSS’ are governed by the guidelines issued by the government. These guidelines have specified the minimum amount to be Rs 500 and thereafter in multiples of Rs 500. Being open-ended, ELSS’ also allow investors to invest systematically. As regards the investment pattern, these schemes have to invest at least 80 per cent of the corpus in equity and equity-related instruments. However, each of the fund houses launching ELSS can decide its own investment strategy. Therefore, the portfolio composition becomes a major deciding factor while selecting a tax savings’ scheme.

In other words, it is crucial to have a closer look at the scheme’s exposure to different segments of the market i.e. large, mid and small-cap before investing in it. Though the past performance cannot be ignored, it is equally important to analyse the risk taken by the fund manger in achieving those returns. If the portfolio composition and the investment philosophy of the fund take you beyond your acceptable risk-taking capacity, you would be better off investing in an ELSS that has a well-balanced portfolio as well as a consistent performance track record. The table below highlights the performance track record of some of the prominent ELSS’.