IT engineer Agrima Sen wants to invest in the stock market and at the same time claim tax deduction against her investments. She just realised it's already January and she hasn’t made any tax-linked investments for the financial year ending March 2022 (FY22). The accounts department in her office will soon approach her for investment documentation. If she fails to make such investments, her tax liability will pinch her pockets when she files her income tax return (ITR) for FY22 later in the year. “A lot of my friends are investing in the market. I hear there are mutual funds that help in claiming tax deductions. I want to start with those,” says Agrima.

Agrima is right. There are nearly 40 equity-linked savings schemes (ELSS), a type of mutual fund that gives you tax deduction under section 80-C of the Income Tax, 1961. These funds come with a lock-in period of three years. Like Agrima, if you are hunting for the best ELSS fund to invest in, here are some options:

Choosing the best ELSS fund

First thing first. You cannot pick just any fund. Star rankings or recent best performers cannot be the right criteria to zero in on a fund. A consistent performer, in the long run, should make the cut. Here comes the role of quartile analysis.

We have compiled a list of the top 16 ELSS funds in terms of asset under management (AUM) in association with the wealth management firm, Holistic Wealth. We ran a quartile analysis on fund returns for the last one, two, three and five years. In quartile analysis, the funds are divided into four groups based on returns. In our list of 16, the top four funds with the highest returns have been assigned the ranking one, the next four, ranking two and so on and so forth.

Data shows Mirae Asset Tax Saver Fund - Reg – Growth and IDFC Tax Advantage (ELSS) Fund - Reg – Growth have stood atop in all the time-frames chosen. Canara Robeco Equity Tax Saver Fund - Growth and DSP Tax Saver Fund – Growth and Kotak Tax Saver Fund - Reg – Growth are the three others that deserve your attention. All of these funds have given double-digit returns in the long run.

“Since inception, on three-year rolling returns, 100% of times, Mirae Asset Tax Saver Fund Reg (G) has beaten the benchmark (Nifty 500 TRI). It is one of the most consistent performers in the ELSS category. Even in Quartile Analysis, it has been in Top Quartile on one, two, three and five-year time-frame. In direct plan, it has one of the lowest expense ratios of 0.43% only,” says Nishant Batra, co-founder and chief goal planner, Holistic Wealth.

“Investors can also consider Quant Tax Plan. It is a relatively smaller and a lesser-known AMC but has done well among various categories,” he adds.

Know the characteristics

The best part about ELSS investment is the lowest lock-in period compared to other tax-linked investments such as tax-saver fixed deposits, Public Provident Fund, National Pension Scheme, Sukanya Samriddhi Yojana and investment-linked insurance policies.

One should, however, note that ELSS is a market-linked product. You need to track market conditions before you start investing. For example, the stock market has had a dream run in 2021. The valuations are on the higher side. You may get tempted to make a lumpsum investment in an ELSS fund to reduce your tax liability. But, this may not be viable at the moment. Starting a SIP in an ELSS fund at the beginning of a financial year reduces the market-linked volatility risk, but a lump sum investment could be risky.

“People can still start SIP for one-fourth portion of the amount to be invested in the remaining three months in FY22. They can put the balance money in products such as PPF and NPS,” says tax consultant Balwant Jain.

To simplify, if you need to invest ₹1 lakh in FY22 to reduce your tax liability, invest about ₹25,000 in an ELSS fund and diversify the rest in NPS or PPF. One can make some investment in Voluntary Provident Fund (VPF) also that compliments your EPF investment and also offers tax deduction under section 80-C.

Further, consider starting a monthly SIP in the chosen ELSS fund from April 2022 onwards to claim a tax deduction against the same for tax liability in FY23. Remember that every single SIP payment will have a separate lock-in period of three years. It means, say, ₹5,000 SIP in April 2022 will get mature after April 2025. The next ₹5,000 payment in May 2022 will get mature in May 2025, so on and so forth.

Two lesser-known facts about ELSS

Batra says ELSS funds cannot invest in global stocks/ETFs. So, if you seek global exposure in your MF portfolio, you should choose another fund accordingly. It may not give you tax deduction but will diversify your investment in global countries.

Note that after the death of a unit-holder, the nominee cannot redeem the ELSS investment instantly. The lock-in period, however, is lesser if the unit-holder passes away. “In case of death of unit-holder, nominee or legal heir will be able to redeem the investment only after the completion of one year from the date of allotment,” says Batra.

ELSS funds are an efficient way to reduce your tax liability as you invest in the stock market. Go ahead and plan your tax-linked investments well.

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