ELSS vs ULIP – Analysing the best scheme for tax savings

In the realm of tax planning and wealth creation, Equity-Linked Savings Schemes (ELSS) and Unit-Linked Insurance Plans (ULIPs) stand out as two popular investment avenues that offer tax benefits while helping individuals grow their wealth. These investment options not only allow investors to save on taxes but also enable them to plan their financial future effectively. In this article, we will dissect the attributes of ELSS and ULIPs, helping you make an informed choice when it comes to tax-saving investments.

How can investors save tax by investing in ELSS funds and ULIPs?

Both ELSS mutual funds and ULIPs offer a tax deduction of up to ₹1.5 lakh per annum under Section 80C of the Income Tax Act. This means that investors can reduce their taxable income by investing in these instruments. ELSS mutual funds provide an avenue for investors to invest in equity markets while enjoying tax benefits, while ULIPs offer a combination of insurance coverage and investment opportunities.

What are ELSS funds, and what are their features?

  1. ELSS funds can help you save up on tax.

Equity-Linked Savings Schemes (ELSS) are a category of mutual funds that combine the benefits of tax-saving with long-term wealth creation through equity investments. ELSS funds have a lock-in period of three years, which is the shortest among all the tax-saving investment options under Section 80C. This means that your investment remains locked in for only three years, allowing you to access your funds relatively quickly compared to other tax-saving instruments.

  1. ELSS funds charge less from the customer.

Another significant advantage of ELSS funds is that they generally have lower charges compared to ULIPs. ELSS funds typically have lower fund management charges, resulting in higher returns for investors over the long term. This cost efficiency makes ELSS funds an attractive option for those who want to save on taxes while keeping expenses in check.

  1. ELSS funds offer more liquidity than ULIPs.

ELSS funds provide greater liquidity compared to ULIPs. After the mandatory three-year lock-in period, ELSS investments can be redeemed at any time. This flexibility allows investors to access their funds when needed without incurring penalties. In contrast, ULIPs often have more extended lock-in periods and surrender charges, making them less liquid.

  1. Equity-Linked Savings Schemes invest in equities and equity-related securities.

ELSS funds are predominantly equity-focused, with a significant portion of their portfolio invested in equities and equity-related securities. This equity exposure provides the potential for higher returns over the long term, but it also comes with greater market volatility. Investors should consider their risk tolerance and investment horizon before choosing ELSS funds.

What is the difference between the taxation of ELSS funds and ULIPs?

The taxation of ELSS funds and ULIPs differs significantly:

  • ELSS funds: Long-term capital gains (LTCG) from ELSS investments are taxed at 10% on gains exceeding ₹1 lakh. This taxation applies only to the gains and not the principal amount invested. Additionally, ELSS investments enjoy tax-free dividends.
  • ULIPs: ULIPs are taxed under Section 80C of the Income Tax Act. While premiums paid towards ULIPs qualify for deductions under Section 80C, the maturity amount received from ULIPs is tax-free under Section 10(10D) of the Income Tax Act. However, if the premium paid in any year exceeds 10% of the sum assured, the maturity proceeds become taxable.

ELSS funds and ULIPS offer the dual benefits of tax deductions under Section 80C and the potential for wealth creation. Your choice between ELSS and ULIPs should align with your financial goals, risk tolerance, and investment horizon. Assess your individual needs and preferences carefully before deciding which scheme suits your tax-saving objectives best.