Section 80C of Income Tax Act 1961 allows investors to claim up to Rs 150,000 deduction from their gross taxable incomes by investing in eligible schemes. You can save up to Rs 46,800 in taxes (for investors in the highest tax bracket) by investing in 80C schemes. Some of the most popular tax-saving investments under Section 80C are Employee Provident Fund (EPF), Voluntary Provident Fund (VPF), Public Provident Fund (PPF), National Savings Certificates (NSC), 5-year tax saver bank fixed deposits, life insurance plan (traditional and ULIP) and mutual fund Equity Linked Savings Schemes (ELSS).
In this blog post, we will compare and contrast the two most popular tax savings investments – PPF and ELSS.
What is PPF?
Public Provident Fund (PPF) is a small savings scheme of the Government of India. It is one of the most popular 80C investment options for Indian investors. You can open a PPF account with just Rs 100 in public or private sector banks or post offices. The minimum and maximum deposit amounts in a financial year are Rs 500 and 150,000 respectively. Since PPF is a Government scheme, your investment is risk-free. You will get interest on your PPF deposit based on interest rates which can be reset quarterly by the Government. PPF interest rates are linked to Government bond (G-Sec) yields of similar maturities. The current PPF interest rate is 7.1%.
PPF investment matures in 15 years. However, under certain conditions, you can take a loan from your PPF balance (between third and sixth year) or make pre-mature partial withdrawals (after 7 years). An account holder can withdraw prematurely, up to a maximum of 50% of the amount that is in the account at the end of the 4th year (preceding the year in which the amount is withdrawn or at the end of the preceding year, whichever is lower). Upon maturity of your PPF (completion of 15 years) you have the option of extending your PPF in blocks of 5 years. The maturity proceeds of PPF are entirely tax-exempt.
What is ELSS?
Mutual Fund Equity Linked Savings Scheme (ELSS) has been growing in popularity as tax savings investments among retail investors over the last several years. Investment in ELSS mutual funds like PPF, qualify for tax deduction under Section 80C of Income Tax 1961. However, unlike PPF, ELSS is market-linked and subject to market risks. Equity Linked Savings Schemes are essentially diversified equity mutual fund schemes that invest in equity and equity-related securities across sectors and market capitalization segments. An investor can invest in ELSS either in a lump sum or through Systematic Investment Plans (SIP). The minimum investment amount in ELSS can be as low as Rs 500.
ELSS funds have a lock-in period of 3 years. Investors should note that if you are investing in ELSS through SIP, each installment is locked in for 3 years. After completion of 3 years, you can redeem your ELSS units partially or fully without any penalty. Capital gains of up to Rs 100,000 in ELSS are tax-free and taxed at 10% thereafter. Dividends (now known as Income Distribution cum Capital Withdrawal Plan) paid by ELSS during a financial year will be added to your income and taxed according to your income tax slab rate.
Wealth creation potential – PPF versus ELSS
One of the main reasons for PPF being one of the most popular tax savings options for investors is the assurance of capital safety. Though equity is a volatile asset class, historical data shows that equity, as an asset class, has the highest wealth creation potential in the long term.
The chart below shows the growth of Rs 5,000 SIP in PPF and Nifty 50 TRI (a proxy for equity as asset class / ELSS) over the last 20 years ending 31st March 2021. You can see that with a Rs 5,000 monthly deposit in PPF you could have accumulated a corpus of around Rs 29 lakhs in the last 20 years (15 years maturity plus 5 years extension with contributions). Your cumulative investment would have been Rs 12 lakhs. With the same cumulative investment through monthly SIP of Rs 5,000, you could have accumulated a corpus of nearly Rs 65 lakhs.
The difference amount is huge Rs 36 Lakhs!
No comments:
Post a Comment