06/10/2016 4:08 PM IST | Updated 10/10/2016 8:48 AM IST

5 Reasons To Invest In Tax-Saving Mutual Funds

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Individual as well as HUF taxpayers can save up to ₹1.5 lakh every year on income tax. This deduction is available on investments and expenses under Section 80C. One of the investment options that you can use to save taxes are tax-saving mutual funds.

The long-term returns from ELSS funds are completely tax-free because they are equity-oriented investments.

Popularly known as Equity Linked Saving Schemes (ELSS), these funds invest a majority of their portfolio in equities. While this equity exposure means higher risks, it also means higher gains over the long-term. ELSS funds are recommended by tax and investment experts as well. Here are five reasons why you should invest in them.

1. Lowest lock-in among tax-saving investments

Tax-saving investments traditionally have long lock-in periods. The PPF has a lock-in of 15 years, the Employee Provident Fund (EPF) and National Pension System (NPS) require you to stay invested till you retire. Other options like FDs have a lock-in of at least five years. Compared to all of them, ELSS funds have a lock-in period of only three years. This means you don't have to compulsorily stay invested in them for long periods. You can redeem your invested amount after a period of three years.

2. Investing through SIPs

SIPs are systematic investments that allow you to invest a fixed amount every month. Using SIPs you don't need to invest one big amount at the end of the financial year to meet your 80C requirement. You can invest a small amount every month and get the same tax benefit at the end of the year. SIPs also have the advantage of rupee cost averaging. With an SIP, you can invest at different levels of the market and not run the risk of catching a peak.

3. No maturity date

ELSS funds don't have a maturity date. This is a big advantage because you can continue investing in them even after the lock-in period has expired, with or without further contributions. This is an important advantage for ELSS funds because here you earn returns from the power of compounding. You keep generating returns on the invested money even if you stop investing further. Another plus point of ELSS funds is that you can stop investing in them any time you want. There is no compulsion to keep investing in an ELSS fund.

4. Inflation-beating returns

ELSS funds are mandated to invest a majority of their assets in equity and equity-oriented instruments. They have the highest equity allocation among all tax-saving investment options. Equity is the only asset class that can help you generate returns that are higher than the prevailing rate of inflation. Equity might be volatile in the short run, but over the long term it can earn returns that are superior to any fixed income tax-saving investment.

5. Diversify and switch funds

You can choose the ELSS funds you want to invest in and how many you want in your portfolio. Diversification is an important feature of equity mutual funds. The fund itself builds its portfolio by investing in stocks of different market capitalization and companies from different sectors. This means your investments are made across the market, with a professional fund manager making the investment choices for you. You can also diversify across fund houses and investment styles by putting your money in more than one ELSS fund. Furthermore, you can even stop investing in an underperforming fund at any point and start investing in another one.

Apart from these advantages, the long-term returns from ELSS funds are completely tax-free because they are equity-oriented investments. So by the time your lock-in expires, your investments would have completed one year for the gains to qualify as long-term capital gains. You won't have to pay any tax on them! That's more than a win-win and an added reason to invest in ELSS funds.

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