When it comes to saving taxes while growing your wealth, Equity Linked Savings Scheme (ELSS) funds are a popular choice.
These funds offer you the dual benefits of tax deductions under Section 80C and the potential for significant returns through equity investments. However, all the ELSS funds are not created equal. To add more value to your investment, one needs to select the right fund.
In this article, we’ll discuss five important factors you have to consider when choosing the ELSS funds so that you can achieve your financial objectives more effectively and decisively.
What is an ELSS Fund?
ELSS funds are equity-oriented funds that invest a major portion of their corpus into equity or equity-related instruments. ELSS funds are known for their tax-saving benefits, as they provide a tax exemption of up to Rs. 150,000 on your annual taxable income under Section 80C of the Income Tax Act.
In the last few years, many taxpayers have resorted to investments in the ELSS funds for availing tax deductions.
Additionally, the returns generated after the three-year lock-in are treated as Long Term Capital Gains (LTCG) and are taxed at 12.50% if they exceed ₹1.25 lakh.
Factors to Consider While Selecting ELSS Funds
When choosing the best ELSS funds, consider the following factors:
1. Asset Under Management (AUM)
A larger AUM allows the fund manager to make more strategic investment decisions, enhancing the potential for higher returns. In contrast, a fund with a smaller AUM limits the manager’s flexibility, leading to constrained decision-making.
Another significant risk of investing in an ELSS with a low AUM is that if a major investor withdraws, the fund’s stability could be compromised, further reducing its AUM. Since ELSS investments are locked in for three years, you wouldn’t be able to exit early, potentially resulting in avoidable losses.
2. Performance Ranking
When selecting an ELSS, many investors focus solely on short-term and long-term returns. While returns are crucial, it’s equally important to compare an ELSS’s performance against its peers. This is where performance ranking comes into play.
ELSS funds are assigned a Quartile ranking based on their relative performance compared to other funds. They are categorized into four Quartiles, from 1 to 4, with Quartile 1 representing the top performers and Quartile 4 the worst.
It’s advisable to invest in funds that fall within Quartiles 1 and 2, as these are the top performers. Conversely, it’s best to avoid funds ranked in Quartiles 3 and 4.
3. Fund Manager Expertise
The expertise and track record of a fund manager are crucial for the performance of an ELSS fund. A seasoned fund manager can effectively navigate market volatility and make informed investment decisions, which can significantly impact the fund’s returns.
Evaluating the fund manager’s past performance and their ability to manage different market conditions can provide insights into their competence and reliability.
Therefore, choosing a fund with a skilled and experienced manager can enhance the potential for achieving your investment goals.
4. Expense Ratio
The total expense ratio (TER) is a crucial metric for investors as it reveals the percentage of an ELSS fund’s profits used to cover management, administrative, and distribution costs. It is calculated using the formula:
Total Expense Ratio = (Total Expenses of the Fund) / (Total Assets of the Fund)
A higher TER means that a larger portion of your returns goes toward expenses, which can reduce your overall profit. Therefore, selecting a fund with a lower TER is essential for maximizing your returns.
5. Risk and Volatility
Assessing the risk and volatility of an ELSS fund is crucial for ensuring it aligns with your investment profile.
Since these funds primarily invest in equities, they are subject to market fluctuations, which can impact returns. Understanding your risk tolerance helps in selecting a fund that matches your comfort level with market ups and downs.
This alignment is essential for maintaining confidence in your investment choices and achieving your financial objectives.
Conclusion
Choosing the right ELSS fund can make a big difference in achieving your financial goals and saving on taxes. It’s important to carefully consider your options to ensure you select a fund that aligns with your needs and preferences.
With the right approach, you can enjoy the benefits of tax savings and potential high returns. For a seamless and reliable investment experience, choose the best platform to invest in mutual funds.