Top Tax Saving Mutual Funds

Tax saving mutual funds are similar to diversified multi-cap equity funds in almost all respects apart from the 3-year lock-in period. So, ELSS funds invest in a portfolio primarily consisting of the Equity stocks of various companies irrespective of their operational sector or market cap. The minimum amount of equity holding that tax-saver mutual funds need to maintain is 65% of assets, while the remainder may be invested in fixed-income instruments like bonds or various money market instruments.

Currently available ELSS schemes are actively managed, so the fund manager and a team of analysts select, buy and sell stocks in an attempt to outperform the chosen benchmark. If the scheme's investments are profitable, the NAV (net asset value) of the scheme increases and investors can sell their units at the higher NAV to book profits from their investment.

The taxation of ELSS funds follows the same rules as the taxation of equity mutual funds, however, short-term gains are not possible in this case due to the mandatory 3-year lock-in. Long capital term capital gains from tax saver mutual funds are tax-free up to Rs. 1 lakh in a financial year. But gains in excess of Rs. 1 lakh during the fiscal are taxable at 10% with no indexation benefit.

As ELSS funds are market-linked equity-oriented schemes, there is a significant risk of short-term volatility. However, the ability of these investments to provide returns that are significantly higher than inflation in the long term is unmatched as per historical data. That said, you need to keep in mind that the total tax benefit you can receive in a financial year is capped at a cumulative limit of Rs. 1.5 lakh under section 80C. So even though there is no rule against exceeding this limit when making ELSS investments, you will not receive tax benefits if you invest more than Rs. 1.5 lakh in tax saver funds during a financial year.

So, you should consider investing in tax-saving mutual funds only if you are seeking to reduce your tax burden, have a high level of risk tolerance, and are planning to stay invested for the long term i.e. 5 years or more. It is also recommended that you invest in these schemes via a Systematic Investment Plan (SIP) so that you do not have to worry about timing the market when making ELSS investments.