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Sunday, September 12, 2010

Understanding ELSS Mutual Fund

What are ELSS?

ELSS (Equity Linked Saving Schemes) are the mirror image of diversified equity funds.

That means the fund manager will invest in shares of various companies across various industries. Hence, it is a normal equity diversified fund. Then, there is the added tax benefit which a normal diversified equity fund will not have. This sets it apart.

Currently, if you invest in such funds, you get a rebate. Let's do it with figures.

You have to pay tax = Rs 18,000

Your rebate = 20%

You invest Rs 10,000 in ELSS.

Your savings = Rs 2,000 of your tax (20% of Rs 10,000).

So instead of paying tax of Rs 18,000, you pay a tax of Rs 16,000 (18,000 - 2,000).

This has changed and you can invest much more than Rs 10,000.

Why ELSS?

The returns are good like that of diversified mutual funds. These funds have a lock-in period of three years. This is not bad at all. It prevents you from unnecessary withdrawals and spending and helps earn a return over time.

Moreover, the three year lock-in period is needed. Because when you invest in equity, you must take a long-term view. The real potential of equities starts to show only after a few years. This allows you to ignore the short-term slumps and stay invested for the long haul.

Also, the lock in gives fund managers the freedom to take sector and stock bets, which they are not able to do in the regular equity schemes.

The dividends you earn will be tax free.

When you sell the units of these funds, you can avail of the long-term capital gain for which there is no tax. If you sell after one year, you pay no tax.

The good picks

Five ELSS worth considering are:

i. SBI Magnum Tax Gain

ii. Franklin India Taxshield

iii. HDFC Tax Saver

iv. Prudential ICICI Tax Plan

v. Sundaram Taxsaver

Since fund managers invest most of their money in equities and equity related instruments, there is some amount of risk involved. But it is always wise to have some amount of equity in your portfolio. And if you are not too sure about directly getting into the stock market, a mutual fund is your best bet.