Tax saving is one of the most crucial elements supplementing investment decisions. Honestly, who does not desire tax benefits while thinking about investing? ; be it long term or short term. However, with a wide range of investment options available, it is important to choose the one which aligns perfectly with your risk appetite, return expectations, long term goals etc.
Section 80C of The Income Tax Act, 1961 needs a special mention here, when it comes to the most popular tax saving investment alternatives. Apart from the deductions available under Section 80C, there are various other Section 80 deductions that can also be claimed to save on income tax. These deductions include health insurance premiums, tax benefits on home loans etc. The two most talked about schemes under 80C are PPF (Public Provident Fund) and ELSS (Equity Linked Saving Scheme). Let's identify the tussle between them with respect to tax benefits – Which one to invest in? What is better? Let us find out.
It is a tax saving mutual fund (MF) scheme and as the name suggests, its performance is linked with market movement making it riskier than a PPF or FD. The volatility is high and it provides no guaranteed capital protection.
However, it does offer tax deduction benefit up to 1.5 lakhs under Section 80C with a mandatory lock-in period of 3 years. It also has a great wealth creating potential apart from tax saving advantage. ELSS investment can be done in two ways – Growth or Dividend. Which one to go for, depends on whether you want to build wealth or you require income on a consistent basis.
Growth option suits investors who are on the lookout for wealth creation and plan to withdraw the entire amount post maturity whereas dividend option could be chosen by someone who needs to earn periodic income derived from tax-free dividends during the lock-in period. There is no upper limit on the amount to be invested in ELSS. Shortest lock-in period with high returns and tax efficiency makes ELSS a very attractive investment instrument. Moreover, the scheme could be continued for investment even after its maturity has reached, unlike the PPF scheme which ends permanently after 15 years of lock-in period.
Some other advantages include – NRIs too can invest in ELSS. Additionally, it allows for joint investment, although tax deductions could only be claimed by the first holder. The rate of return though not fixed, is certainly higher than PPF. The risk taking capacity of the investor would determine whether he or she would take the leap of faith of investing indirectly in equity market, considering the market volatility aspect. As far as the returns are concerned, the investor enjoys the benefit of compounded returns with a brief maturity. This could probably be an optimum method of saving tax as well as creating wealth over the long term.
The ELSS category as represented by the CRISIL – AMFI ELSS Fund Performance Index has returned 19% CAGR, on average, in the 10-year rolling period since June 2001 (inception date of the index)
PPF (Public Provident Fund)
The Public Provident Fund is a savings-cum-tax-saving avenue introduced by the National Savings Institute of the Ministry of Finance in 1968. The scheme is fully guaranteed by the Central Government. It is a fixed income oriented scheme with a mandatory lock-in period of 15 years.
It aims to focus on encouraging employees to channelize their small savings into the scheme for a secure future post retirement. It guarantees reasonable returns combined with income tax benefits.
The advantage PPF enjoys over ELSS is that, it remains well insulated from market volatility since market movements do not determine returns in this case. The interest rate is declared by the Central Government on an annual basis. PPF falls under EEE (Exempt, Exempt, Exempt) tax basket. Hence, contributions to the account as well as the entire amount withdrawn after attaining maturity is exempted from tax. It is available to all the citizens of India except NRIs with minimum yearly deposit of Rs.500 and a maximum deposit of 1.5 lakhs. Any excess deposit will not earn any interest. PPF is the most preferred traditional investment instrument in India for investors with lowest risk appetite. Citizens can even avail loans from the 3rd financial year up to the 5th financial year. Withdrawals too can be initiated from the 6th financial year (50% of the deposited amount). The major benefit is the government backing enjoyed by PPF. Therefore, it carries the least amount of risk as far as long term investment is concerned.
ELSS vs. PPF – Final Verdict
ELSS in most cases scores higher and emerges as a clear winner in comparison to PPF, if the investor is willing to brave the market risk factor. The shortest lock-in period also makes ELSS attractive enough. According to one of the research reports by CRISIL Fund Insights, the equity asset class has been in a sweet spot in recent years with the S&P BSE Sensex returning nearly 13% CAGR in the past four years ended January 15, 2018. On the other hand, interest rates on fixed income tax-savings instruments have been declining in recent years. For instance, the interest on the popular public provident fund (PPF) has fallen from 8.7% in 2014 to 7.6% today. The real or inflation-adjusted return on these instruments is barely enough to meet an individual's wealth-creation needs. Hence, when it comes to tax planning, it is remunerative to choose equity instead of traditional debt-based tax-saving products in the long term. Equity-Linked Saving Scheme (ELSS) that is eligible for Section 80C deductions not only helps to save tax but also builds wealth. It thus seems to outperform PPF.
ELSS can be extended unlike PPF which ends after 15 years. Investment in ELSS in the long term can assure a return in the range of 12-18% which is relatively higher than PPF in general. Also, there is no upper limit on both time and investment in ELSS. Therefore, it could be a better investment choice from the point of view of tax saving as well as liquidity. However, investment horizon and financial objectives would differ from investor to investor, keeping in mind their risk appetite. Hence, weighing the pros and cons to effectively reach an investment choice should ideally be the approach before plunging into investing of any kind and zeroing in on an optimum avenue for desirable returns.