Five things You Need to Know About Tax Saving Mutual Funds

They are High Risk, High Return in Nature

Unlike traditional tax saving avenues such as endowment insurance, tax saving fixed deposits or PF’s, tax saving mutual funds are high risk, high return in nature, since they invest into equities. For this reason, they have the potential to outpace inflation and assist you in creating wealth in the long run. However, in the short run, tax saving mutual funds can be volatile.

For Best Results, You Should Plan Ahead

Instead of investing all their requisite moneys in one shot at the end of the fiscal year, investors should ideally plan ahead and start SIP’s (Systematic Investment Plans) in tax saving mutual funds at the start of the year. This will help them significantly reduce the risks associated with their ELSS investments. Additionally, investors who start SIP’s in tax saving mutual funds early on in the financial year will be able to avoid the last-minute scramble to put together investible fund at short notice, at the end of the financial year.

You Should Look Beyond the Three-Year Lock-in

Although tax saving mutual funds have a lock in period of three years, it’s important to note that any equity-oriented investment works best when its invested into for at least five to seven years. In fact, an analysis of returns over the last 5 or 10 years shows that these schemes are better than pure large-cap funds on a risk-adjusted return basis.

Going for the Growth Option Makes More Sense

With the recent budget proposing a tax of 10% on equity mutual fund dividends, it makes more sense for investors to select the growth option while investing into tax saving mutual funds. Doing so will result in more tax efficient returns, and also allow your corpus to compound over the long term, resulting in a larger quantum of wealth creation.

You’ll Likely Not Get a Loan Against Your Tax Saving Mutual Fund Units

Most lenders will not offer you a loan against your tax saving mutual fund units, unless their mandates lock in period is over. Neither will you have interim options to redeem your moneys, either fully or partially. For this reason, you need to be very sure that you’re OK with zero liquidity from your ELSS funds for three years. Having said that, its also worth noting that tax saving mutual funds have the shortest liquidity period amongst all available options.