Money Tip # 1

How to Save Tax with less amount

So what is core idea behind the tip?

Take full advantage of short lock -in period of ELSS (Equity Linked Savings Scheme) and rotate money every three years

Who is it for?

This is for people who do not have lot of money to invest and still want to take full advantage of section 80C. Rajan – Age 27 years. Got married just a year back. In a Job with say 4 to 5 years of experience. With additional responsibilities and expenses, he is struggling to do investments and take advantage of tax benefit available under section 80C. Sounds familiar story? Many people especially young ones in lower income bracket have similar challenge. Let us see why they should consider ELSS as investment option.

Let us understand it

ELSS or Equity Linked Savings Scheme is type of Mutual Fund which gets income tax benefit. This is one of the several options that you have to chose from – PPF, VPF (Voluntary Provident Fund), Ulip (Unit Linked Insurance Plan), 5-year bank FDs, etc. Then why I do feel that ELSS is best option if you have less money to invest.

Short Lock in period is key benefit

Let us say, you have around 40 thousand to invest in first year of job. If you invest it say in PPF, money will be locked for 15 years. In ULIP or VPF it may be locked till maturity. In Bank FD with tax benefit, it is locked for 5 years. But in case of ELSS, lock-in period is just 3 years. That is least locking period compared to any other option available in India. You can take advantage of this and rotate the money every three year. So, what you invest in first year, you withdraw in 4th year and reinvest it again in ELSS and take tax advantage. Similarly, second year investment can be redeemed and re invested in 5th year and third year investment can be used in sixth year.

After initial three years of investment, you need not invest more from your income. Same money invested 3 years back can be redeemed and reinvested again and again. While reinvesting money, you can invest in same ELSS fund or any other better performing ELSS fund. So, this also helps you indirectly monitor the ELSS fund and take necessary action in timely manner.

Explanation with example

I know currently ELSS or any Equity Mutual Funds are not performing great but in general you can expect to get around say 10% returns. So, your money would grow at least by 25 to 30% after 3 years. Say, your 40 thousand in first year will be around 50 or 52 thousand in 4th year. You can now get benefit of 50 thousand without actually investing anything additional from your pocket that year. This would continue and may be in 7th year, value becomes around 65 – 70 thousand. You can withdraw and re invest it again to get now 70 thousand tax benefit. Below table should explain how it can work.

Of course, ELSS is Equity based investment and there will be fluctuations in valuation. So, it will not be exactly as per example. For example, in 5th year if market it not doing well, you may have case where instead of 52,000 say value is only 45,000. So, you will get tax benefit of only 45,000. But opposite is also possible. May be in sixth year, market could be doing good and value could be 60,000 instead of 52,000. In that case, you will get benefit of 60,000. So overall it should average out across years. 

Cost of implementation

There is no cost or penalty for this. There is no exit load as you are selling fund after period of 3 years.

How to implement this practically?

When you place request for redemption of fund, you will get value as per NAV (Net Asset Value) of that day. Generally, money will be credited to your bank in 3-4 working days. Theoretically it is possible that NAV is different after 4 days when you try to invest. Though practically it will not be too much of difference. You can avoid this by selling and buying on same day.

Let us take example of 5th year. When you have around 52,000 in your account, you should buy ELSS for that much amount and sell your old units on same day. So, your buying and selling would be exactly at same NAV. You will need to manage money for 3-4 days till you get money from your Mutual Fund AMC. You can plan this well in advance based on your salary day etc. Its just matter of 3-4 days.  If you invest by SIP then its amount is even less to manage. You will need to manage amount like 4 or 5 thousand for 3 – 4 days.


Do we need to time market for deciding when to sell and buy?

Not at all. Here we are selling and buying on same day. So even if market is down or up, same units will be available to us once sell and buy is complete. So, no need to worry about when to do this.

Of course, how much tax benefit you will get will depend on value when you sell and invest. What I mean is say in a particular year, you sell the fund and re invest money in Month of May. Say you got 52,000 to invest and so tax benefit is of 52,000 that year. It is possible that in September value could have grown to 55,000 and if you had sold and bought in September then tax benefit could be of 55,000. But please note this difference is only for getting tax benefit where some luck with timing could help. In terms of actual value, you are selling and buying same units and so there is absolutely no difference. In this example, even if you sold and bought in May, value in September will still be 55,000.

Isn’t 3 year short period for Equity? Isn’t it wrong to sell so early

Three years is definitely short period for equity class. But here you will note we are just doing technical sell and buy. You are not actually exiting after 3 years. Let us say in 3 years, your 40,000 becomes 30,000 due to some market crash like current Corona one. Even then if you sell all 30,000 and buy it again on same day, you will have same units and same valuation. But if you don’t do this, you will need to invest fresh 30,000 this year to get that tax benefit. If you have money, you need not go this route. But there are people who may not have funds to invest. They can follow this approach.

Do we need to follow this every year?

That is based on your needs. If in particular year, you have sufficient money to invest and get full 80c benefit, you need not do this. Say in 5th year, you did not do it. Then in sixth year, you have more fund available to use. Both 2nd and 3rd year units would have completed 3 year lock-in period by then. So you now have double amount to redeem and re invest.

Before you go

Last note – Intention of article is not to encourage not to invest more after 3 years. If you have money, you should surely do so. It will help you build good amount as years pass. But still you should redeem and re invest ELSS if you are short of full 80C benefit. Let us say you have capacity to invest 40,000 even in 4th year. Still you should redeem and reinvest 52,000 that is coming from first year investment. This will help you get 52,000 plus 40,000 = 92,000 tax benefit.

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