Which are the best Tax Saving Mutual Funds?

One of the consolations of paying income tax is the deduction you are able to avail under various sections of the Income Tax Act. In the Budget of 2020, the government has offered taxpayers two choices – deductions with higher taxes, and no deductions with lower taxes.

If you want to avail of deductions, your best bet would be investments under Section 80C. Why? Because it allows you to reduce your taxable income by as much as Rs. 1.5 lakh a year through investments in specified instruments. One of the favourite investment avenues is the Equity-Linked Savings Scheme (ELSS), which is essentially an equity mutual fund that invests in shares of different companies.

Of course, you have other options too. These include Public Provident Fund (PPF), Voluntary Provident Fund, five-year fixed bank deposits, National Savings Certificates (NSC) and various insurance schemes for you and your family. However, there are huge differences in the risks, returns offered as well as the lock-in periods among all these options.

ELSS offers the best returns as well as the shortest lock-in period of all these investment options. Though there are no guaranteed returns because returns on ELSS funds are linked to market performance, equity generally has delivered the best returns among all asset classes over a longer term in the past few years.

What exactly is ELSS?

ELSS are essentially open-ended equity mutual funds which are eligible for deductions from taxable income up to Rs. 1.5 lakh in a year under Section 80C of the Income Tax Act. They have a lock-in period of three years, after which you have the choice of redeeming them or continuing with the investment.

However, returns from ELSS are subject to long-term capital gains (LTCG) tax if you redeem them after three years. You have to pay LTCG tax of 10 percent on any LTCG gains over Rs. 1 lakh in a financial year.

Best tax saving mutual funds

You now know what ELSS funds are, but you must also know that all funds are not alike. There are many asset management companies with ELSS funds of their own. Each ELSS fund may invest in different stocks and their performance could vary. Here’s how you can pick the best tax saving mutual fund:

• Returns:

  There are many web sites that offer comparisons of mutual funds. Choose an ELSS fund that offers best returns over different time periods, like a year, five years or ten years. Choose one whose performance is consistent over the years.

• New fund, old fund:

  Usually, people invest in new fund due to the low NAV and think that growth would be high but that does not mean all new funds are a good choice. The performance of any fund depends upon market returns, fund manager capabilities and other related factors. In existing fund, you have an advantage to check previous track record and history which you will not know for a new fund.

• Fund house:

  Choose a fund house that has a good reputation and performance history in the market.

• TER:

  Keep an eye out for the Total Expense Ratio or TER, which is what the fund house charges to manage your ELSS fund to pay for administrative and other expenses. Higher TER pulls the NAV of a fund downwards, so it is better to strike a balance between fund returns and its expense ratio.

Above are some of the ways in which you can find the best tax saving mutual funds. These ELSS funds are a great way of not just saving income tax, but to create wealth too. Don’t ignore them while doing your tax planning.

You can invest in ELSS and other mutual funds through ICICIdirect. Click here to know more.