ELSS vs PPF: Which one should I go for? #TaxSaving

Diversifying your portfolio in a way that attracts fewer taxes is the dream of every investor. When it comes to tax saving, the two most common areas that come to mind are Equity Linked Saving Scheme (ELSS) or Public Provident Fund (PPF). Both of these are the most popular saving schemes eligible for tax benefits. While PPF has traditionally been a more popular investment option, ELSS is slowly catching up as people are becoming more aware of it as an option.

What is ELSS?
ELSS is a type of equity mutual funds that invest a significant part in equity or equity-related instruments. That makes you eligible for tax deduction benefits under section 80C of the Income Tax Act, 1961. You can avail up to a limit of Rs.1,50,000 as tax exemption of the invested amount. There is a mandatory lock-in period of three years. The profit you’ve earned from the ELSS at the end of three years (if realised) is non-taxable for up to Rs. 1 Lakh in one financial year. Any gains above Rs. 1 Lakh without indexation is taxed at 10% i.e income earned at the end of the 3-year tenure is exempted from taxation if it’s under Rs.1 lakh, any income over Rs.1 lakh is taxable at 10% under Long-Term Capital Gains (LTCG) tax.

You also have the option to invest lumpsum into an ELSS or make it a SIP ELSS. Generally, ELSS is linked with a long-term financial goal. To average out a rising and a falling market, a SIP is generally recommended. Very good for investing aggressively.

What is PPF?
PPF is a government-backed scheme for long-term investment. It is relatively safer than other tax saving instruments and has tax benefits under section 80C of the Income Tax Act, 1961. Interest rates for PPF are fixed by the government each quarter. PPF draws the attention of an investor who wants to earn a high bit stable returns over a long period. The main target of someone opening a PPF account is the safekeeping of their principal amount. PPF is more of a low-risk low return policy when compared to ELSS. Invested funds in the PPF are not market-linked, which makes them low risk. Very good for investing safely.

Features of ELSS:

1. Diversification and high returns: ELSS invest majorly in equity; almost 80% of the total. These investments are made across various companies, ranging from small to large-cap and across multiple sectors. This allows you to diversify and stabilize your portfolio very well, mitigating risk. Even providing very high returns of roughly 11-14% in 3-year or a 5-year time frame, making them an excellent investment option for a high-risk taking individual.

2. Low lock-in period: ELSS offers a smaller lock-in period of a minimum of 3 years. This gives ELSS the advantage of being an investment option with higher liquidity. If you want something to save tax and for a shorter lock in period, ELSS is the best option.

3. Low-minimum amount: Rather than having a lump sum amount to start with, you can start investing in this with as low as Rs. 500. This gives you the ability to invest without accumulating a comparatively large amount and the ability to diversify your portfolio well.

4. SIP: you also have an option of investing in ELSS via a Systematic Investment Plan, an opportunity you don’t get in a lot of tax-saving investment products. This allows you to lower your risk as it averages out the rising and falling markets. 

Features of PPF:

1. Low-risk: It is a relatively safer investment as the government backs it, and governments are very unlikely to overturn. Despite being slightly low-return, it is one of the most popular options because of the stability and returns. It is not market-linked, and the interest rates are fixed by the government, making it relatively immune to market ups and downs.

2. Lock-in period: It is a long-term investment with a mandatory lock-in period of 15 years. However, to slightly increase the liquidity, you can take a loan against the investment amount of the PPF deposits between the 3rd and 6th financial year, from the year of opening. If pre-specified, you can also make partial withdrawals from the 6th year onwards.

3. Principal amount: You can invest a minimum of Rs. 500 and a maximum of Rs. 1.5 Lakh annually in a PPF. PPF is generally lumpsum. If it is to be instalment payments, an individual can only be eligible for a 12 yearly instalment payments mode in a PPF.

4. Tax Benefits: If the principal amount invested does not exceed Rs. 1.5 Lakh per financial year, the entire value of the investment can be claimed for tax waiver under section 80C. The total interest earned via a PPF can also be exempted from any tax calculations. Therefore, the entire amount to be redeemed at the maturity of the PPF is not subject to taxation.

To Sum Up:

While both investment options are suitable for tax saving, it is essential to pick an investment scheme based on your return expectation, risk appetite, and the time horizon for investment. PPF is suitable for individuals who want high stability on their principal amount and possibly risk-averse for 15 years. Whereas, for those with a more aggressive investing mode in mind, higher risk-appetite, and shorter time horizon for investment, ELSS is the best option. By staying invested in ELSS for the long-term, you can also reduce the risk.

Previous article6 Benefits of Investing via SIP
Next article5 events that prove 2020 was a crazy year
Ved holds a Master's Degree in Management Studies in Finance from the ICFAI Business School Mumbai. He is extremely passionate about Equity markets and swears by the age-old maxim of “Time in the market is more important than timing the market”. He has in-depth knowledge & knack of the mutual fund industry and loves working on client portfolios and analyzing Mutual fund schemes on myriad subjective and objective parameters.

Comments are closed.