Tax-saving mutual funds and Section 80C: Why lock-in is good news


Despite 2023 being such a good year for equities and equity mutual funds, Equity-Linked Tax Savings Schemes (ELSS), or tax-saving mutual funds, got minuscule inflows. The Nifty Midcap index returned nearly 40 percent. The Nifty 100 Index returned nearly 18 percent. Mid-cap funds got a net inflow (more money came in than went out) of Rs 21,520 crore. Small-cap funds got net inflows of Rs 37,178 crore.


But ELSS got a net inflow of just Rs 3,773 crore in 2023. Presumably, the culprit is the 3-year lock-in that comes mandatory with all ELSS funds.


Curiously, many investors who dip their toes into equity markets come across acquaintances who sagely convey some variant of the following beliefs…


“Equities will only benefit you in case you hold them for several years”


“Time in the market trumps timing the market”


“Do not be perturbed by short-term stock market fluctuations… as these smoothen out over time”


“While investing, beware of greed and fear”.


Warren Buffett, that doyen of investing, has also alluded to the virtues of long-term investing when he quipped: “I never attempt to make money on the stock market. I buy on the assumption that they could close the market the next day and not reopen it for five years”.


It may also be an apt moment to recall Blaise Pascal, who remarked, “All of humanity’s problems stem from man’s inability to sit quietly in a room alone.”


So why are we suddenly recounting all these lessons?


Many of these investors say they ardently believe in long-term investing. However, they seem to be averse to walking the talk.


It seems that investors understand that needless activity in their portfolios is undesirable, and yet hesitate to invest in an option which helps them avoid such needless activity.


There are others, who are open to investing, but only up to the amount of income tax benefit available u/s 80C of the Income Tax Act, 1961, which currently is Rs 1.50 lakh. A distaste for ‘lock-in’ may result in investors under-investing in a scheme which may actually be suitable as well as beneficial to them.


This could result in a missed opportunity, especially if the ELSS in question has been performing well over the long term.


Viewing ELSS through the lens of its wealth creation potential (akin to that of any other non-ELSS equity scheme) may motivate us to think beyond the immediate income tax benefit which they confer.


I have noticed that these same investors unhesitatingly choose options with longer lock-ins so long as they are ‘safe’. This includes tax-saving Bank Fixed Deposits, Government Small Savings Schemes, etc. Many of these entail lock-ins of five or more years. Besides, the upside is fixed – as they usually offer a fixed rate of interest. Hence, the scope for wealth creation is limited.


Is too much transparency killing ELSS?

I have been dwelling on this paradox and I think that sometimes the transparency offered by markets and mutual funds may work against the tendency to remain inactive. Constant stimulus in the form of real-time prices, publication of Net Asset Values (NAVs) on a daily basis, talking heads on TV, social media influencers, etc, perpetuate the desire ‘to do something’.


Why lock-in helps

The Law of the Farm states that we cannot sow something today and reap it tomorrow. A realisation that all good things take time is the first step towards wealth creation.


The concept of investing broadly involves sacrificing spending today in order to accumulate wealth tomorrow.


Wealth accumulation involves two aspects


1) Consistent addition to the corpus


2) A continuous compounding of this corpus.


Compounding is interrupted if we constantly tinker with the process.


Lock-ins help ensure that we are constrained from doing so.


My suggestion is do not get repelled by the mandatory lock-in of three years, in an ELSS. “Lock In Accha Hai”.


Source- Moneycontrol

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