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What are tax-saving mutual funds and what are their benefits?

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What are tax-saving mutual funds and what are their benefits?

While calculating their return on investment before investing in a mutual fund scheme – a recommended practice that is simplified by online mutual fund calculators – investors also analyse the scheme’s taxation in advance. The Income Tax Department taxes a significant chunk of the gains that investors earn while investing. ELSS funds (Equity Linked Savings Schemes) help investors save a considerable amount in taxes; and are therefore called tax-saving mutual funds. According to the Association of Mutual Funds in India’s (AMFI) data from August 2023, equity mutual funds witnessed a net inflow of ₹20,161 crore in that month. 

How do ELSS mutual funds function and what are their key features? 

Investors can invest in one of two categories of ELSS mutual funds – growth ELSS funds and dividend funds. The first category of ELSS funds – growth funds – offer higher capital appreciation over time by reinvesting returns into the scheme. Dividend ELSS funds, on the other hand, distribute profits as dividends to investors. Here are a few other features and benefits of ELSS funds that investors must know: 

  • ELSS funds are suitable for first-time investors.

Investors who wish to invest in these tax-saving mutual funds do not need to have years of investment experience to earn high returns. An ELSS mutual fund investment can serve as the ideal first-time investment for an investor since it comes with the advantage of attractive tax exemptions. 

  • These are Equity investments that offer moderate-to-high returns.
    ELSS mutual funds invest their capital in equity and equity-linked securities that offer high returns. They can be potentially high-risk investments; however, they can help investors earn impressive returns over time. 
  • Investors can save a high amount in taxes by investing in ELSS mutual funds.
    Investors can benefit from a tax exemption of up to ₹ 1.5 lakhs by investing in an ELSS mutual fund scheme under Section 80C of the Income Tax Act. 
  • Investors must know about the mandatory lock-in period.
    ELSS mutual funds have a compulsory lock-in period of three years. In comparison to other investment schemes like the Public Provident Fund (PPF) or the National Savings Certificate (NSC), ELSS offers quicker liquidity. 
  • ELSS funds are ideal for investors who have a medium-to-long investment horizon.
    Investors who wish to invest their capital in an ELSS fund must invest for the medium-to-long term. Short-term equity investments are generally more volatile as compared to medium or long-term investments. 

Steps that investors must follow while investing in an ELSS mutual fund: 

Before investing in an ELSS fund, an investor must consider a few key factors and invest their capital accordingly. Here are the steps that they must follow: 

  • Investors must use a mutual fund sip calculator to calculate the total returns at the time of their investment’s maturity. 
  • They must analyse the previous performance of the ELSS mutual fund in question. 
  • Investors must check the expense ratio of their ELSS investment and invest accordingly. 
  • They must keep re-assessing their ELSS investment with the objective of ascertaining whether it is in line with their investment goals.

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