Every individual, before making an investment decision should ask themselves, “What is my ultimate financial goal?” That’s because if you are planning on making investments, it is better that you first make a financial plan, list all your financial goals, and then work towards them. When you have a defined set of short-term and long-term goals, making an investment decision may become easier. There are some individuals who have tough time-saving money on a regular basis. They are usually bankrupt at the end of the month and waiting for their next pay cheque to arrive. Leading such a lifestyle may hamper one’s long-term financial goals. It is necessary for investors to understand the importance of money management.

Those who are able to save some portion of their monthly savings do not have a tough time allotting a certain portion of that savings to investment schemes. However, there are some who lack the understanding of savings and are more inclined toward spending more. Expenses are going to be never-ending, but if you do not learn to control your savings now, you won’t be able to build wealth over the long run. Young earners should understand the fact they are going to need more money to survive in the future than they need now. It is quite evident that the young generation doesn’t pay much attention to saving. They feel that retirement is something they do not need to pay attention to right now and they can worry about their future later. They want to live in the present and enjoy their youth. However, as you grow old it brings along other problems like health issues and fixed-income living.

If you are used to living a lifestyle full of luxuries when you retire you may not be able to live this lavishly. That’s because your main source of income will mostly be a pension which will be sufficient to help you get through the month with all the basic expenses like utility bills and groceries. However, if you want to enjoy life beyond that, you may have to start saving now, so that when you hit retirement, you have enough corpus accumulated to help you enjoy your sunset years.

Salaried individuals know the importance of investing. If they do not invest in tax-saving schemes, they might lose a chunk of their hard-earned money to the government. There are several tax-saving instruments out there that one can make the most out of in order to bring down their overall tax liability. Section 80C of the Indian Income Tax Act, 1961 allows investments of up to Rs. 1.5 lakh certain tax saving schemes which can be submitted as investment proof. But before making an investment in any type of scheme, investors are expected to understand their risk appetite. That’s because there are conservative schemes offering fixed interest rates, and then there are other schemes that do not offer any fixed capital appreciation and are market linked. Those who are risk averse generally prefer investing in tax-saving conservative schemes. However, one may or may not succeed in achieving their ultimate financial goal by restricting their investments to such avenues.

However, if your risk appetite allows you to invest in market-linked schemes that not only help you save tax but might also help you accumulate wealth in the long run, you may consider investing in a mutual fund scheme like ELSS. Equity Linked Saving Scheme (ELSS) is a tax saving scheme that comes with a predetermined lock-in and a tax benefit. Since ELSS is an open-ended mutual fund scheme, it is important for us to first understand mutual funds before proceeding to ELSS.

This is what SEBI, the regulator of mutual funds in India has to say about them –

“Mutual funds are a mechanism for pooling the resources by issuing units to the investors and investing funds in securities in accordance with objectives as disclosed in the offer document.

Investments in securities are spread across a wide cross-section of industries and sectors and thus the risk is reduced. Diversification reduces the risk because all stocks may not move in the same direction in the same proportion at the same time. Mutual fund issues units to the investors in accordance with the quantum of money invested by them. Investors of mutual funds are known as unitholders.

The profits or losses are shared by the investors in proportion to their investments. The mutual funds normally come out with a number of schemes with different investment objectives which are launched from time to time. A mutual fund is required to be registered with Securities and Exchange Board of India (SEBI) which regulates securities markets before it can collect funds from the public.”

Mutual funds are supposed to offer investors diversification and risk management. They are also supposed to give investors an opportunity to invest in multiple asset classes and industries through one simple investment. It is believed that the performance of a mutual fund depends on the performance of its underlying assets and the instruments in which it invests. Mutual fund investors are allotted mutual fund units in quantum with the investment amount and also depending on the fund’s existing net asset value (NAV).

Now that you have a clear idea about mutual funds and how they work, let us move ahead and understand what ELSS is and how it may help you save tax and accumulate wealth in the long run.

What is an Equity Linked Saving Scheme?

ELSS is the only mutual fund scheme that is eligible for a tax benefit. A three-year lock-in means you cannot redeem or withdraw your ELSS fund units till the three-year tenure is over. One good thing about ELSS is that this tax saver fund has a short lock-in period. As per Section 80C of the Indian Income Tax Act, 1961 you can invest up to Rs. 1.5 lakhs per fiscal year and claim tax benefits for the same.

Here is an example to help you understand how ELSS works:

Dixit Gala, a management professional with a top corporate firm earns Rs. 14 lakhs per annum. This makes Dixit fall in the 30 percent tax slab. Dixit learns from a colleague about the tax saving scheme i.e. ELSS and decides to invest Rs. 1.5 lakhs* in it. This way, Dixit’s gross taxable income has come down to Rs. 11.5 lakhs and he has managed to bring down his overall tax liability by investing in ELSS.

A comprehensive guide to ELSS investments