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ELSS vs Mutual Fund : Which is the Best Tax Saving Option?

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August 3, 2022


What’s Inside

What is a Mutual Fund?

A mutual fund is a broad category of investments. Typically, in a mutual fund, the capital from various investors is pooled together to create a common fund. This collective corpus is then invested in different asset classes like equity, bonds, money market instruments, gold, and so on.

Depending on the proportion of corpus invested in different assets, mutual funds can be of various types like equity funds, debt funds, hybrid funds, balanced funds and money market funds. This sums up the fundamentals of mutual fund investments. 

What is an Equity Linked Savings Scheme (ELSS)?

An ELSS is also a kind of mutual fund. More specifically, it is a kind of equity mutual fund that invests at least 65% of the corpus in the equity market. Apart from this defining characteristic, ELSS mutual funds also have two other distinct features that set them apart from regular mutual funds. 

Let me take you through these points one after the other.

A short lock-in period

Equity Linked Savings Schemes have a lock-in period of 3 years. This means once you invest in an ELSS fund, you need to wait for a period of 3 years to withdraw your investments. So, if you invest a lump sum of Rs. 1 lakh in ELSS on September 30, 2022, you can only withdraw the funds along with the gains on September 30, 2025.

Well, that is simple enough. But what happens if you invest in ELSS via a Systematic Investment Plan (SIP)? In that case, the 3-year lock-in period is separately applicable to each SIP payment. In other words, each SIP instalment needs to be invested for a period of 3 years, at least. 

Tax benefits under section 80C

ELSS funds also offer tax benefits, unlike other regular mutual funds. The amount that you invest in an Equity Linked Savings Scheme during a given financial year is eligible for deductions under section 80C of the Income Tax Act, 1961. You can claim deductions from your total income, up to Rs. 1.5 lakhs during a given year.

As a result, your total taxable income reduces, and your tax liability also comes down as a result. In this way, ELSS mutual funds help you save tax during the financial year. 

ELSS vs Equity Mutual Funds

At the outset, both ELSS and equity funds may appear very similar because, well, they both invest primarily in equity funds. In fact, the very definition of an equity mutual fund is that it should invest at least 65% of its corpus in the equity market. And that is precisely what an ELSS fund does too.

But the main point of difference in ELSS vs equity mutual funds is that the former comes with a lock-in period and gives you tax benefits. You cannot liquidate your ELSS investments before 3 years from the date of purchase, but you can sell your holdings in regular equity funds anytime you want to. And you get tax deductions on your ELSS investments. 

Apart from these differences, the gains from ELSS and regular equity funds are taxed in the same manner. Debt funds, however, are taxed differently. Let us take a closer look at these details.

How Are The Gains From Mutual Funds Taxed?

When you sell your holdings in a mutual fund, you may incur a loss or a profit. If you earn a profit, the gains are considered as capital gains for the purpose of taxation. Depending on the period of holding and the kind of mutual funds, these capital gains can be classified into Long Term Capital Gains (LTCG) or Short Term Capital Gains (STCG) as follows.

The taxation of the capital gains also depends on whether they are short term or long term, and on what kind of funds are involved. Let’s see how the STCG and LTCG from debt and equity funds are taxed. 

Type of fund

Debt mutual funds

Equity mutual funds (including ELSS)

Rate of taxation of STCG

As per your income tax slab rate


Rate of taxation of LTCG

20% with indexation

10% without indexation (on gains exceeding Rs. 1 lakh)

ELSS Vs Mutual Funds: The Key Differences

So, you now have a clear idea about what mutual funds are, in general, and what ELSS funds are, in particular. To make the comparison of ELSS vs mutual funds easier, here is a table summarising the key differences between ELSS and mutual funds.


Regular mutual funds 


Assets in the portfolio

Can be primarily equity, debt instruments, gold, etc.

65% or more of the assets are equity shares 


Varies based on the kind of mutual fund

Typically on the higher side because of market-linked returns

Lock-in period 

No lock-in period

Lock-in period of 3 years

Tax benefits

No tax benefits

Deduction up to Rs. 1.5 lakh u/s 80C

Taxation of gains

Depends on whether it is a debt or an equity fund

15% on STCG and 10% on LTCG without indexation (for LTCG over Rs. 1 lakh)

Mutual Funds vs ELSS: Which is better for tax savings?

ELSS funds are more tax efficient. The amount you invest is deductible from your taxable income, so you can save tax even as you invest your surplus funds for the future. 

The only limitation may be the lock-in period, but if you take a look at the bigger picture, even this can be an advantage. That’s because of all the investments that offer benefits under section 80C of the Income Tax Act, 1961, ELSS funds have the shortest lock-in period. They also have the potential to deliver higher returns than most other tax saving investment options. 

Read on: Mutual Fund SIP Vs PPF: A Comparison of Benefits and Returns

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Frequently Asked Questions

1. What is the difference between ELSS and a normal mutual fund?

A mutual fund is an investment option that pools together the money from different investors and then invests that collective corpus in different assets. These assets may be equity shares, debt instruments, gold, or other such options. 

An ELSS or Equity Linked Savings Scheme is also a kind of mutual fund. It invests at least 65% of the corpus in equity, and allocates the rest to debt instruments and other assets. The main characteristic of an ELSS fund, however, is that it gives you tax benefits unlike regular mutual funds. 

2. Why is ELSS tax free?

ELSS is not tax free. Rather, it offers tax benefits. This is because of the provisions contained in section 80C of the Income Tax Act, 1961. As per this section, investments in ELSS up to Rs. 1.5 lakhs are eligible for deduction from your total income. This, in turn, reduces your tax liability. 

3. What is the average return on ELSS?

The returns on Equity Linked Savings Schemes can vary a great deal because they invest in market-linked assets. However, on average, the returns from ELSS have been around 15% over the past 10 years.

4. Is ELSS taxable after 3 years?

ELSS funds have a lock-in period of 3 years. So, if you liquidate your investments after this period, any gains will be classified as Long Term Capital Gains (LTCG). And any LTCG on equity funds, exceeding Rs. 1 lakhs, will be taxed at 10% without indexation.

5. Are ELSS Mutual Funds high risk?

The equity market generally attracts high risks, making ELSS high risk funds.

6. Which company ELSS is best?

Some of the best performing ELSS funds to look out for in 2022 are -

1. HDFC Long Term Advantage Fund

2. IDFC Tax Advantage (ELSS) Fund

3. BOI AXA Tax Advantage Fund

4. PGIM India Tax Savings Fund

5. Mirae Asset Tax Saver Fund


Investment and securities are subject to market risks. Please read all the related documents carefully before investing. The contents of this article are for informational purposes only, and not to be taken as a recommendation to buy or sell securities, mutual funds, or any other financial products.
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