Retirement is an important conjuncture in every individual’s life. Since you would lose the consistent stream of salary income on your retirement, it is important to plan your finances for after-retirement life.
While there are multiple investment options available in the market for retirement planning, the article explains in detail about why investing in Equity Linked Saving Scheme (ELSS) could be one of the best options for the same.
What is Retirement Planning?
Retirement planning involves determining your retirement income goals and allocating your savings accordingly to reach the goal. The success of retirement plan depends on not only saving early but also on selecting the right kind of investment options to make your wealth grow.
Factors such as risk appetite and investment time horizon play an important role in selecting apt investment option for retirement planning. The process of retirement planning includes identifying sources of income, estimating expenses, then selecting and implementing a saving and investment plan.
Why Should You Plan for Retirement?
Some of the key reasons to plan one’s retirement at the earliest possible :
- To meet day to day expenses post retirement
- To finance family expenditures such as for higher education or marriages of children
- To be able to meet unforeseen expenses post retirement such as medical emergency
- With an increase in average life expectancy, you would require adequate retirement funds
What are the possible investment options for retirement planning?
For the longest time, traditional investments like PPF, EPF, Tax-saver FDs, NSC and Life Insurance policies have been considered ideal for retirement planning as they are risk-free in nature and provide added tax benefits.
However, with more investment options and financial literacy, modern day investors are showing interest in high risk-high return investment products such as ELSS, NPS, ULIP etc. Since retirement planning involves a long term investment plan, the risk of investing in market-linked instruments gets minimized.
What is Equity Linked Saving Scheme (ELSS)?
Equity Linked Savings Scheme (ELSS) is a type of equity mutual fund scheme which comes with a lock-in period of 3 years and also the contributions upto Rs. 1.5 lakh a year are eligible for tax deduction under Section 80C of the Income Tax Act, 1961.
The investment in tax savings mutual funds can be made by buying units of the ELSS scheme. The units are allotted based on the applicable NAV (net asset value). The NAV keeps changing as it depends upon the movement in the price of the stocks held in the scheme, which changes every day. Thus, the returns on ELSS keep on fluctuating as per the price movement of underlying securities.
Also Read : Best ELSS Funds for 2019
- Lock-in period of 3 years
- More than 80% of the corpus is invested in equities
- Both Growth and Dividend options are available
- The minimum investment required in an ELSS is Rs 500
- Tax benefits upto Rs. 1.5 lakh under section 80C
- Market-linked instrument, returns are not guaranteed
Benefits of Investing in ELSS
- Tax Efficiency: ELSS is relatively a tax-efficient product as not only investment upto Rs. 1.5 lakh per year is tax deductible u/s 80C but also long term capital gains upto Rs. 1 lakh in a year also tax exempted.
- Lowest Lock-in Period: Compared to other traditional tax saving investments, the 3 years lock-in period in ELSS is the lowest. Thus, investments in ELSS are more liquid when compared to other tax-saving instruments.
- Higher Returns Potential: As ELSS invests in equities the potential return from these investments can be much higher compared to other options in the long term.
Why invest in ELSS for retirement planning?
Dual Benefits: Tax Saving & High Investment Return
ELSS is not only a good investment option in terms of returns but also much suitable for tax-saving purposes. In the long run, equities as an asset class have outperformed all other investment options, which makes ELSS have superior growth potential. If you look at the historical returns, ELSS has provided over 15% returns in a 10-year time frame which is exceptional across the categories!
While most products which qualify for tax deduction under Section 80C have lower returns and higher lock-in period, ELSS provides relatively higher returns and lowest lock-in of 3 years.
Though there is a risk element with ELSS investment as it is a market linked instrument but the risk can be minimized by staying invested for a very long term. Since retirement is in general a 20 to 25 years goal, ELSS can definitely be one of the products in the portfolio of an investor willing to take low to moderate risk.
Advantage of Diversification
Diversification is a very important aspect of financial planning as it reduces your risk greatly. ELSS funds offer the advantage of diversification as the fund managers invests in a variety of sectors as well as companies.
ELSS ROI Exceeds Inflation
While making investments, one of the most important aspects to keep in mind is whether your investments are providing positive returns after taking the rate of inflation into account. It is important to look at inflation adjusted returns while planning for retirement as it will reflect the true value of money at that time.
If we look at the average return of ELSS in the last 10 years, their performance has been stellar considering that net ROI has exceeded inflation at every turn.
Easy and Flexible Investments
Investments in ELSS are convenient and extremely flexible. You can invest in ELSS in lumpsum as well as by making contributions at regular intervals through Systematic Investment Plan (SIP). You can increase or decrease the amount of investment in your ELSS scheme as per your will.
Though there is a minimum requirement of Rs 500 investment, there is no limit on the maximum amount you can invest in a tax saving ELSS fund. So in your initial years you can start with a lower amount and then as you grow in your career, you can start investing more when your income increases.
Professional Fund Management
ELSS is managed by fund managers who have years of experience and expertise in selling and buying stock based on extensive research. They use the available funds optimally to ensure that the investments give the best possible returns to the investors. Thus, you will reap the benefits of best in class investments without having to do continuous research or monitoring.
Availing Tax Benefits
Contributions made into ELSS schemes are tax deductible. You can keep investing in an ELSS scheme without any limits and if you do not wish to withdraw from your ELSS fund, you can opt for SWP (Systematic Withdrawal Plan) later on, which will give you a periodic payment facility like annuity in any pension plan.
Further, capital gains from ELSS funds upto Rs. 1 lakh are also tax exempt. Dividends that are earned from dividend schemes of mutual funds are also completely exempt from tax at the hands of the investor.
Also Read : How are Mutual Funds Taxed?
Things to Consider Before Investing in ELSS
- Past performance: Past performance helps in giving a fair idea of how the fund has performed over the years and if it has been able to give consistent returns. Though past performance does not give assurance of performance continuity in future, it can still give you a fair idea about the fund management style.
- Fund Ratings– There are various rating agencies like Morningstar, Valueresearch who provide periodic ratings to mutual funds including ELSS schemes. The ratings given by these companies are based on various factors such as the risks and returns performance, AUM, asset management company etc. You should ideally opt for schemes which have higher ratings.
- Size of the Fund– The size of the fund or AUM (asset under management) is one of the simplest ways to compare a scheme with its competitors. A bigger corpus in comparison with its competitors indicates that more investors are confident about the performance of the scheme.
- Expense Ratio– Before you make an investment you must also look at the costs involved apart from the returns, as these have a direct impact on the net potential returns. It is therefore advisable to check into the various applicable charges like fund management charges etc before choosing any fund for investing.
- Risks Involved- ELSS mutual funds invests in equities and carry the inherent risk associated with any equity fund. Hence one must also look at the various sectors and stocks the fund invests in, it helps in determining if the investment risk is high or low, given the outlook on those sectors.
ELSS Performance: A Comparative Analysis
Though ELSS has a lock-in period of 3 years, one should ideally look at these investments for long term. The short lock-in period just gives flexibility in case of an emergency.
|Scheme||Returns ( as per last 10 years )||Lock-in period||Returns||Taxation on returns|
|ELSS||13.45%( as per CRISIL-AMFI ELSS index)||3 years||Returns are market linked as they invest in Equities||Tax Exempt|
|PPF||8 %||15years||Fixed Returns: Finance ministry announces the interest rate for each quarter.||Tax Exempt|
|Tax Saver Bank FD||6-7%( varies from bank to bank)||5 Years||The rate of interest differs from bank to bank and is fixed for the entire tenure of the FD at the beginning of the term. It is in the range of 6 to 7%||Only interest taxable as per income tax slab.|
Here is a List of 10 of the Best ELSS Schemes
|Fund Name||1 Year Returns||3 Year Returns||5 Year Returns|
|Mirae Asset Tax Saver||21.22%||15.98%||–|
|Axis Long Term Equity Fund||28.38%||17.35%||12.02%|
|Tata India Tax Savings Fund||19.6%||12.83%||11.41%|
|Invesco India Tax Plan||19.21%||13.55%||11.01%|
|Motilal Oswal Long Term Equity Fund||25.94%||12.67%||14.65%|
|Kotak Tax Saver||19.61%||11.27%||10.18%|
|Aditya Birla Sun Life Tax Relief 96||13.38%||12.23%||9.64%|
|DSP Tax Saver Fund||18.74%||10.5%||10.93%|
|ICICI Prudential Long Term Equity Fund (Tax Saving)||11.11%||8.42%||7.84%|
|L&T Tax Advantage Fund||12.9%||8.38%||8.09%|
(Data as on 24th February 2020; Source- Value Research)
While the returns generated by ELSS schemes have been the highest in the tax planning investments, the risk element acts as a deterrent to ELSS investment. However, one should not forget that the longer you stay with your investment, lower is the risk and higher are the returns.
Since retirement planning is a long term investment plan, ELSS can be one of the best investments that you can go for. If you are risk-averse individual, you can always invest a part of your savings in ELSS and the rest with traditional mode of investments. With tax saving benefits and high return potential at very moderate risk, ELSS can be an ideal investment to consider for retirement planning.
Frequently Asked Questions (FAQs)
Q. Can I plan my retirement savings in ELSS Mutual Funds instead of NPS or PPF?
Ans. Yes, you can. PPF is something that gives fixed returns as its a 100% debt-oriented and minimum tenure is 15 years and partial withdrawal is allowed after 5 years while in ELSS you can withdraw after the lock in of 3 years. Both NPS and ELSS offer flexibility and taxation benefits under Section 80C but in NPS you have to keep investing till you are 60 and only 20% can be withdrawn before retirement.
Q. What is the best option to save money for retirement: FD, RD, Mutual Funds, NPS or PPF?
Ans. It depends on what an investor wants – higher liquidity or safety or returns. Mutual Funds especially if invested through SIP route offer the best returns but with higher risks than other options. FD, RD and PPF offer fixed rates of interest. However FD and RD can be of shorter duration and full amount withdrawal can be done after the lock in time, PPF investment’s tenure is 15 years and partial withdrawal allowed after 5 years. Mutual Funds usually offer higher returns and liquidity than PPF.
Q. How much tax can be saved by ELSS?
Ans. You can save up to ₹ 1.5 Lakh a year under Section 80C of Income Tax Act.
Q. Is ELSS maturity amount taxable or not?
Ans. Yes, the capital gains after maturity are taxable. ELSS is taxed as per tax norms of Equity Funds where Long Term Capital Gains are taxed at 10%.