ELSS funds are an efficient instrument to save tax and build wealth at the same time. ELSS is an equity mutual fund which allocates most of your invested capital in stocks of companies across industries and sizes.
These funds come with a lock-in period of three years. It means you cannot redeem your fund units for three years from the date of allotment.
It is one of the investment avenues available under Section 80C of the Income Tax Act which qualifies for availing a tax exemption of up to Rs 1.5 lakh.
Lately, ELSS funds have gained popularity among the investors as an excellent wealth accumulation tool. Apart from having the shortest lock-in period, ELSS funds deliver the highest returns owing to a large exposure to equity component in the fund portfolio.
One question that lingers in mind of investors is that which is a better way to invest in ELSS funds: Systematic Investment Plan (SIP) or one-time investment. The final decision is based on your personal goals and factors discussed in the following text.
How is SIP different than one-time investment?
SIP and one-time investment (also known as lump sum) are two modes available to an individual to invest money in mutual funds. In both the cases, the person is allotted mutual fund units at the prevailing Net Asset Value (NAV).
The major difference lies in the manner of the cash flows. In case of one-time investing, you invest a big chunk of money all at once to buy units of your preferred mutual fund.
In case of SIP, you may prefer to invest in a staggered manner instead of putting all your money at once. It involves a fixed amount being debited from your savings account at regular intervals and used for the purchase of mutual fund units of the indicated scheme.
An investor who does not have lump sum in hand right now but has a regular stream of income, say by way of salary, may invest via SIP mode. Conversely, if there is a person whose future cash flows are not guaranteed, then opting for SIP seems impractical.
Why SIP is better than one-time investment for ELSS?
Basically, you need to be guided by your personal goals and risk appetite for investing in ELSS funds. It is up to you whether to choose SIP or one-time investment. However, SIP seems an ideal mode of investment on account of several reasons:
Spreading out the risk
ELSS being an equity-oriented fund, opting for one-time investment is like taking a risky bet in one go. You end up investing a huge chunk of money without being aware of the market conditions. Just in case you catch the market when it is at the peak, then such kind of approach can prove to be detrimental.
Instead, go for a planned and staggered approach by way of SIP. In this option, your investments are spread throughout the financial year. In this way, you lower the risk of entering the market at an unfavourable moment.
Rupee cost averaging
As money is invested at regular intervals you can take the advantage of market fluctuations. When the NAV is at low levels, you buy more units of the ELSS fund. Conversely, when prices are high, relatively lesser units will be bought at prevailing NAV.
By investing at regular intervals, you can avoid the complex decision to time the market. Ultimately, per unit cost of your units is averaged which reduces the overall cost of investment.
By opting for SIP, you get into the mode of disciplined investing. You inculcate the habit of investing small sums at regular intervals. In this way, your investments become an integral part of your tax planning.
Instead of postponing investing till the last moment, you are able to invest in a planned manner throughout the year. It also helps to have a long-term approach towards equities which increases the probability of earning higher returns.
While investing in ELSS, consider wealth creation as an equally important objective as tax-saving. Have a long investment horizon of at least five to seven years.