Begin your investment journey with tax-saving mutual funds

This is the story of three friends. To be regionally and culturally relatable, we’ll call them Ram, Richard and Rehman. Actually, this story is largely about Richard and Rehman. Ram doesn’t have much a role to play in this story. His two pals are the protagonists. 

All three of them are now middle-aged. They studied together in college and Richard and Rehman went on to get well-paying jobs. Ram joined his family business right after college. Richard and Rehman changed companies over the years, but, by and large, have had steady incomes that have allowed both to have comfortable lifestyles. But alas, every smooth road has a few bumps along the way. In Richard’s life, the bump came recently when he was diagnosed with a life-threatening disease. He had a decent medical coverage, but despite that he needed a big chunk of money to help him come through from the illness. This is where his friend Rehman helped him out.

Despite earning well through most of his career, Richard didn’t have a corpus that was big enough to help him at the time of need. Rehman, who had earned on similar lines, had that much money. This was not because Richard was a carefree spendthrift while Rehman was frugal. It was because Rehman was a regular investor and Richard wasn’t. 

The benefits of investing regularly are underrated. You don’t even need to invest a big amount, a small amount every month can translate into a substantial corpus over time. Just put aside 10-20% of your salary every month and you will see it grow over the years. And instead of letting that saved money sit idly in a savings bank account, you can put it in an equity mutual fund to earn higher returns that can help you beat inflation. 

The first investment any earning individual should have is a tax-saving mutual fund. Also referred to as an equity-linked savings scheme (ELSS), these funds invest a major part of their portfolio in stocks. They should be the first investment choice because they earn you a tax break under Section 80C of the Income Tax Act. This way you can not only invest regularly in the stock market without assuming direct risks, but you can save on income tax as well. 

This is what Rehman did. He started small but it helped his corpus grow big. ELSS funds earn compounding interest, which means that the longer you keep investing, the more returns you make. There are numbers that further this case. Over 5-year, 10-year and 20-year periods, the best-performing ELSS funds have earned returns of around 15%. Sometimes even more. 

For example, if you save Rs 1,000 every month in a savings bank account for 10 years, your Rs 1,20,000 will become approximately Rs 1,24,800 in a bank that generally gives 4% interest per annum. (This is a rough estimate subject to the average balance maintained in the account.) On the other hand, a monthly SIP of Rs 1,000 in a well-performing ELSS fund would enable the Rs 1,20,000 to grow to approximately Rs 2.5 lakh to Rs 2.9 lakh at an interest of 13-15% compounded annually. (This data is taken for a period between 2005 and 2015.) As you can see, a good ELSS fund can more than double your money over any long-term period. 

This is why it makes sense to start investing as soon as you start earning. The other benefit of ELSS funds, apart from the tax break, is that all returns earned from equity investments held for over one year are completely tax-free. That’s the icing on the cake.

So, begin your investment journey with ELSS funds. First fulfill your tax-saving limit and once that’s done, you can think about other investment avenues. ELSS funds also come with a lock-in period of three years, which means you will stay invested for a good enough period to not get influenced by market volatility. 

The author Archit Gupta is Founder, ClearTax.in. ClearTax helps individuals prepare and file their income tax returns in the shortest time while maximising their tax deductions. Start filing now on cleartax.in.