The Mutual Fund Show: Are ELSS Schemes The Best Tax-Saving Option For Investors? 
A coin is dropped into a piggy bank in this arranged photograph. (Photographer: Ron Antonelli/Bloomberg)

The Mutual Fund Show: Are ELSS Schemes The Best Tax-Saving Option For Investors? 

Tax-saving mutual fund schemes are popular among investors as they have the shortest lock-in period.

But if one intends to cash in after three years, they need to be very careful about allocating all of the money to equity, Vishal Dhawan, founder and chief executive officer at Plan Wealth Advisors, said on BloombergQuint’s special series The Mutual Fund Show.

For investors still contemplating investment options under Section 80C of the Income Tax Act, Nirav Panchmatia, founder and chief executive officer at AUM Financial Advisors, said mutual funds are better placed than all the available options. Public provident fund, which generates returns of around 7.9 percent per annum, is now passé as it barely beats inflation, he added.

Both the advisers shared their top picks among tax-saving mutual funds schemes. Three funds made the cut for the duo: Axis Long Term Fund, Mirae Asset Tax Saver and Motilal Oswal Long Term Equity Fund.

Here’s why these funds made it to the list and more….

Watch the full show here...

Here are the edited excerpts of the interview...

Would you believe that for Rs 1,50,000 tax saving, assuming that EPAF and other options don’t exhaust a person’s quantum, are tax-saving mutual funds the best option?

Vishal: They are a really good option. The need on whether it is the best option depends on how long people can stay invested in it. A lot of people tend to look at each tax option saying, ‘what’s the lock-in?’ and therefore let me take the money and get out of it once the lock-in period is over. Now ideally, if you are going to be doing equities, you don’t want to be putting money in there only for three years, you want to put there for seven to 10 years, allow them to flourish, go through the market cycles etc. So, our belief is that, if you are coming in there saying this is long-term wealth creation for me—the tax break on top of that is a great news. Then I think ELSS is a great category for investors to look at. But if you are coming in there saying I just need the money after three years, I am going to set up a business, I have children education goal to fund in three years then you need to be very careful about just allocating all of your money to equity only.

Nirav, what are your thoughts?

Nirav: There are a plethora of options. Tax-saving mutual fund or ELSS have a minimum lock-in of three years, it is a market-linked product and the first criteria for investing in equity is that you should have a minimum of three-year investment horizon. The lock-in exactly matches that particular criteria. From that angle, I think it is one of the better options under all the seven-eight options that you have under Section 80C. It is the first exposure that a particular investor can have to the equity market via that Rs 1.5 lakh per investor can take to tax-saving mutual funds. So, I think that is one option. It is a no-brainer, one should let go of PPF now because at 7.9 percent, it is barely matching inflation and look to investing in a tax-saving mutual fund.

Lets work with an assumption that people are agreeing to this argument that tax-saving funds are a good option to invest in. What are the funds that people could invest in? We will then also talk about the benefits of a tax-saving fund, not just for the purpose of saving fund but for building wealth as well. First, let’s talk about the tax-saving funds. Let’s talk about a few funds that you guys have in your mind and why is it that you are recommending that. I think the number one and number two between the two of you alter a little bit in terms of positions but Axis, they’ve had a fabulous last 12-months and therefore, I want to start off with that. Vishal, it is your number one option. Why so?

Vishal: One needs to go back in history a little bit to be able to separate out what has happened in the last 12 months versus just a long-term track record because a 12-month period is too short to go out and make decisions on investment choices. There are three things that have worked well for Axis. One is the fact that they’ve been true to the mandate of being able to be flexible to move across market caps. So, if there have been times where they have felt that large caps are universally more attractive, they have stayed there. If they felt that mid caps are in good place to be in, they have been fairly comfortable in moving that portfolio there. So, I think staying true to mandate and taking advantage of it is definitely a good reason.

Secondly, they have had a very stable management them. That is important because ultimately as processes will drive certain outcomes, fund managers and fund management teams add that extra level of benefits that really flow through to investors. The third is the fact that they have run different concentrated portfolios and over the last few cycles, we have actually seen that concentrated portfolios have helped outcome if you have got the choices right. Therefore, I think the combination of these three things have helped. Now, as you look at the data today, you might get a little worried because you’re starting to see valuations on that portfolio being at the premium to other players. Therefore, I think it’s very important, when people making ELSS choices, that they go in through either SIPs or STPs—very much like they will do with other investments. Otherwise you could end up entering a market at just the wrong time. Let’s say if you get into markets today, it is very tempting to just say, I have got to give my investment proof by Feb. 28 so let me just get it out of the way right now. And you miss the fact that you could have actually at least put maybe two or three different instalments, you could have spread it out over the next 45 days or so and then given your investment proofs still by Feb. 28. I think, ideally start in April, build it out for 12 months. If you can’t do that today, then just at least for the next 45 days, if your company allows you to do that.

Nirav, your top recommendation is the Mirae Asset Tax Saver Fund. Why do you recommend this one?

Nirav: Mirae as a fund house has proven its metal in the Indian equity markets. So, the fund house, the pedigree that they have, the scheme and the fund manager Nilesh Surana— they’ve got an impeccable pedigree, an impeccable performance of the four years that the Mirae Tax Saver has been. As Vishal pointed out, Axis Long Term Equity by far over three and five and 10-year period has won the best performing fund. That is exactly because of these 11 stocks which are running the market today. So, today that particular portfolio is slightly overvalued. Although if you want to buy, I would say if you want to buy the best stocks that are there in the Indian equity market, Axis Long Term Equity is the one you should start with. I would rather than going for the first and the second rank, I would say the top three picks in tax-saving mutual fund from my side would be Mirae Tax Saver and Axis Long Term Equity and Parag Parikh Tax Saver. The third one does not have a track record because it’s a new fund, but the particular mutual fund company has an exemplary track record and this is only second offering from that particular AMC.

So, you don’t have a particular choice between Mirae and Axis. Your call is similar on both the funds?

Nirav: You bid your money. Let’s say if you want to invest Rs 1.5 lakh. Why don’t you put Rs 75,000 each in both Axis Long Term Equity and Mirae Tax Saver? The top ranker of the class changes every year. So, let’s not go by that. Again, in the four or five offerings that we have in tax-saving mutual fund that I have selected, if you think you have a bias towards mid cap, then you may as well go for Motilal Long Term Equity. Whichever equity fund Mirae Fund House has come out with—they have a limited four or five equity funds, they have been the top quartile performers in each of the category. Again, this is a fund which is a large-cap buyer, 75 percent of it is invested in large cap as of now. Considering the times and the geo-political risks that we have; large cap buyers are preferred during these times rather than going right away for mid caps and small caps.

I’d like to add a point on your SIP thing. One thing one has to remember is that there is a 36-month lock-in from the date of your investment in the tax-saving mutual fund. SIP is 100 percent recommended if you do a Rs 12,500 SIP every month in a tax saver, you meet your Rs 1.5 lakh as you rightly pointed out. And that way you are not burdened in February and March. While you have to give your documents to the HR personnel and suddenly, you have to find out where you can take out that Rs 1.5 lakh. One must remember that each SIP is locked for the next 36 months. So, you are going to redeem it after three- to five-year period. It will take two more years for you to redeem that entire amount. One just has to be aware of it otherwise SIP in a tax-saving mutual fund is a wonderful proposition.

Vishal, do you want to add to why you prefer Mirae as well?

Vishal: I think there is one big driver. So, what has happened with Mirae is that it is not as concentrated a portfolio among you know those big names. To contrast it, Axis, for example, has 65 percent of its portfolio in the top 10 names. And therefore, if that bucket underperforms, for whatever reason, I think investors will be exposed to that particular risk. Mirae is much more diversified. If you look at valuations as well, they are pretty much in line with category, they are in line with index. We like the fact that it works well. And what we continue always like is that everyone who is doing bottom-up stock picking. I think we are in a market which is going to be a bottom-up stock picking market for a while because the macro is not supportive, there are lots of issues in there. So I think the more we are able to identify bottom-up stock pickers, I think the more likely that your outcome is going to be positive.

Why tax-saving funds need not be only used for tax-saving but also for wealth creation?

Nirav: Tax-saving funds at the end of the day, are equity diversified funds. We have around 40-42 offerings in tax-savings. They are just like any other tax-saving fund. The only thing is, there has been an additional benefit given by the Income Tax Department under Section 80C that if you invest there, you also get a tax benefit. So, this is a myth. We get calls from investors at end of the third year that the tax-saving period is over, can we redeem? You wouldn’t have redeemed it if it was a normal equity diversified fund and you’re tagged that particular fund to a particular goal. So my suggestion would be—invest in a tax-saving mutual fund to get the tax benefit which is a secondary benefit that you getting but don’t forget it is an equity diversified fund and if it is doing well, tag it to your goal and you can renew your investment at the end of three years rather than taking out money. It is only a liquidity available to you, the lock-in is over. But if the fund is doing well, another advantageous point is that after the three-year period you can revisit, re-strategise. If the fund is not doing well, you can move to other tax-saving mutual fund or other normal equity diversified fund which is not an option available under other ATC options. In PPF, I am locked for 15 years with a partial withdrawal in the 7th year. In an NPS and bank FD, I am locked for five years. After I have invested, if the interest rate goes up, I cannot re-strategise. Here I can do that. So, don’t look at tax-saving funds as a three-year product. They can be a 30-year product also.

Vishal, do you want to add to this?

Vishal: I think there are two elements here. One is what phase of life an investor is in. I am going to a give you an example. There is a set of people who are always unable to make ends meet because they’re leveraged and all of that and tax is really the only thing that drives them to save some money. If that’s the bucket you are in, the lock-ins then are actually very useful because then, they prevent you from spending that money, which can be much more damaging. Here, we are talking about potentially losing 10-20 percent of your capital. If you spend it, you have lost all of it. So, it’s important to be able to separate out the set of people who have surplus, who are disciplined. For them a tax planning fund can very well serve as a long-term wealth creation instrument among their bucket of other funds that come in there. Therefore, they need to get evaluated just like one would evaluate, let’s say if you are looking at a multi-cap ELSS fund, you need to look at it against other multi-cap funds. The lock-in has an advantage for first-time investors because if they are going to end up panicking because of market situations, which happens very often, you look at your screen and you have Rs 1,50,000 and it suddenly becomes Rs 1,35,000 and you are like, ‘before it becomes a Rs 1,00,000, let me run.’ I think for those set of people, it’s also good that the lock-in prevents them from panicking. So, those set of investors will find a lot of value in using ELSS funds as a general wealth-creation vehicle. For the other set of people who were always short of money, I think it’s a forced discipline. In fact, we tell those investors that don’t even run a one-year SIP— run a long-term SIP. Ultimately if you want to stop it, it’s like a one-month affair but if I come back to you in April and tell you that let’s start the tax planning fund again, you are probably going to think that, ‘oh what I have I am going to vacation in May, I am going to spend this money in July’ and so on and so forth. So, there are these two different sets of investors that look at this vehicle very different from each other.

Nirav, you mentioned PPFS but here the list says you have Motilal Oswal Long Term Equity as one of the ideas as well. Do you want to talk about that?

Nirav: Motilal Oswal sums the many tax-saving offerings that we have—40 odd. Motilal stands out in a way that it is a concentrated portfolio. They have 26 stocks in the portfolio. So, if an investor wants to take a tax advantage, go for an equity diversified multi-cap fund and if one wants to have a concentrated portfolio, Motilal is a very good offer. They follow growth at a reasonable price strategy. And earlier the fund, although being multi cap, was tilted towards large cap. Now it is tilted more towards mid cap considering the valuation that you have towards the mid cap. So, from that angle and you have a Raamdeo to touch to that portfolio. I never forget to mention that. Motilal Long Term Equity stands in a good state today if you put money there for the next three years.

It is there on Vishal’s list, but I want to talk about the number three on Vishal’s list. Aditya Birla Sun Life Tax Relief 96 Fund. Why this fund?

Vishal: So, it is pretty interesting. Look at their one-year performance. They are lagging pretty significantly. So, for people who seek returns, this would not appear on the top 10-15-20. So, we continue to believe that one of the ways that investors need to look at returns is to look at them on a rolling basis rather than on a trailing basis. One of the clear biases that exist is that the last 12-month performance will impact your last 24-month performance 36, 48, 60 and so on and so forth. Therefore, if you have to remove that bias saying that is my last year’s great performance or terrible performance impacting all my past outcomes, then the only way to beat that is to use rolling returns. Very interestingly, when you put Birla Tax Relief 96 on a rolling return parameter—you will find that it scores very highly. The second thing is to understand the reasons why they have underperformed in the last 12 months for example. You will find that one of the big reasons is a fairly significant position on the mid-cap side. It’s not like it is a mid-cap heavy fund but they have much more than what its peers have. Therefore, when you look at it in a peer group basis, you’re seeing them underperform. So, if we can look at a good fund management team, if you believe that mid-cap valuations are now as attractive or as good as large cap valuations, then a portfolio which is having a mix, which is a blend of both of them is more likely to give investors a better outcome than the one which has only a large-cap exposure. And that is the reason why we continue to believe that it is a good choice even though there is one-year underperformance.

The next fund that we have is from Nirav and that is the Invesco India Tax Plan. Is the strategy different? Why do you like it?

Nirav: So, Invesco India Tax Plan is managed by Amit Ganatra. Normally, in today’s time you will see that 95 percent of equity funds have a bias. The top sector is financials, the second top sector is consumer. So, I mean, if you have other equity funds in your portfolio, you are anyway overweight on these two sectors. Invesco India Tax Plan is one fund which is overweight on industrials and healthcare today. This fund follows a contra-approach, right? It has not done extremely well over the last one year because financials and consumer had done well last year but if you look at the next three years or five years, I believe this contra-approach will pay off in a big way.

You are taking a bit of a sectoral call here?

Nirav: I am taking a sectoral call. Other funds are of a bottom-up approach. They take the sectoral approach and they have consciously taken a decision that let us not be very heavy like the Sensex and Nifty and other equity funds on financials and consumer. Let us be underweight there and overweight on industrials and healthcare. That is the primary reason I have chosen this fund.

Interestingly, the DSP Tax Saver Fund finds the mention, Vishal. Why this? I see your reasons that it ranks better than its peers on multiple parameters.

Vishal: The way we look at funds is that we need to be able to find consistent performers because a challenge that one always sees when one is trying to do fund selection is that you see this wide variation in performance in one year and then a spectacularly good one followed by a spectacularly bad one and so on and so forth. Therefore, if you are trying to look for consistent players which is what I think a lot for investors want, everyone would love to have the best performing fund in their portfolio, but they want it each year. Unfortunately, in a tax-saving fund even if you want to do something like that, you can’t because the money is locked-in for three years. So, I think where the DSP Fund does well and when I talk about it against peers, it’s really about looking at the fact that you have a set of 40 funds. Therefore, anything which is in the top decile or quartile is actually doing much better than its peer group. Therefore, we like the fact that it’s broad-based portfolio, it has got a consistent track record, expenses are okay, valuations are okay. They are not trying to hit the ball out of the ground for a super sixer. I think just in their saying that we have job to do, that job is to be able to deliver equity outcomes for investors who are coming in and staying long-term, let’s just do that for them.

Nirav, you have PPFS, you want to talk about that?

Nirav: PPFS—Parag Parikh, it was a PMS earlier, then they had one equity scheme which has been phenomenally well which we are all aware of. PPFAS Long-Term Equity Fund managed by Rajiv Thakkar. Parag Parikh was known as the father of value investing in India. So, all other funds that I talked about and that my partner talked about here, they were all funds with growth-oriented approach, right. So, if you want to go away from the crowd, PPFS is a fund house, which is known as the number one fund house which follows value style of investing. In the market, over a three-four-five-year-period there are seasons where sometimes growth performs and there are years where value performs. And they don’t have a sector. It is sector agnostic, it is market cap agnostic, it is style agnostic. The only thing is they have value as the style. So, every particular stock is cherry-picked, and they do not like to pay more. There is this discussion in all your shows that you host that quality is very expensive today. So, they have very clearly mentioned that we will never overpay for a particular stock. Among the four criteria that Warren Buffett mentions for buying a stock and the last one is price and trees don’t grow to the sky, so you don’t pay a very heavy price even for the best stock on the Earth. That is the style they follow and, from that angle, I believe it is—although this particular scheme is new—but then we have copied the equity portfolio from their existing fund which has a proven track record over eight-10 years. From that angle, Parag Parikh Tax Saver is a very good offering in a client’s portfolio.

Your last recommendation Vishal.

Vishal: So, I would say that the Motilal Oswal fund he already spoke about may well be the last choice. Again concentrated, growth stocks, largely driven towards larger companies at this point of time as well. So, I think it’s a good choice. The thing about ELSS funds though is that we keep telling investors to typically have just one or two in your portfolio. Don’t spread yourself thin in that category. We’ve seen portfolios come to us where people who started off 15 years ago now have 10 different ELSS funds in their portfolio because every year they’ve bought the best performer. They have Rs 30-50,000 that they invested because some of it was used up by insurance and EPF. So, they put like Rs 30,000 every into each of these schemes and then they have a hotchpotch of a lot of ideas. So, typically for most people just one ELSS fund is good enough. If you’re just not comfortable with putting money in one name, which some people aren’t, then maybe two. So, I think most of the time you’d never reach number four or five in any ELSS category unlike let’s say other categories where there could be a lot of other options as well.

It’s okay to differ, Nirav. Do you differ or do you believe that it is best to have one or two limits?

Nirav: Rs 1.5 lakh cannot be breaking beyond two or three. So, we have clients which are families, so there are 10-12 income tax files in a particular family. There you have the leeway of offering them in that particular family group more than two or three funds. But, yes, I mean equity mutual fund itself is a very diversified product so having eight to 10 good equity schemes in any portfolio no matter how big the size is what you should be targeting at. He very rightly said that we come across portfolios which were not professionally managed and here are people with 5-10-year-old portfolio with 15, 20, 30, 40 equity schemes. So, then what you are doing is basically buying the BSE 500 Index and you bring down the returns of the portfolio. If you buy the top performer every year, you’ll never make money. So, any of these funds we have recommended between seven-eight schemes, buy them, hold on to them for any period from three years to 10 years and you will not be disappointed. You will be getting a return in the range of 12 to 14 percent compounding, which, internationally, is a very good return to look at.

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