What we should not do When Investing in Tax Saving Mutual Funds !!

We have just two two months left for this financial year and many of us might already have made all the tax saving investments. But many others may be still waiting to completely utilise the tax-saving exemptions available under Section 80C.

We have many tax-saving avenues available, such as Public Provident Fund (PPF), Tax-saving Bank Deposits, National Savings Certificates (NSC) etc., many are flocking to tax-saving mutual funds also known as Equity Linked Saving Schemes (ELSSs). With the falling interest rates on fixed income products and high growth in equity mutual funds, investors are flocking to the equity market in the quest to earn higher returns.
 

PPF, which has a 15-year lock-in (with partial withdrawal after 6 financial years) and bank FDs or NSCs that have a 5-year lock-in while investments in ELSSs are locked in for three years only. This makes it more liquid than other options.

ELSS could be a prudent choice as compared to other fixed income products however as applicable to all market linked investments, there ELSS also has a risk. We should not just get carried away by the double-digit past returns but do it systematically through a well-defined process.

Here are few things which we should not do when investing in ELSS.

 

1.     Investing lump sum rather than in staggered manner:

Many of us invest suddenly wake up for tax saving when the HR of company asks for the proof and then invest full amount at one go in ELSSs. This is not the right way for equity investments as lump sum investments in equity mutual funds might expose our self to a high-volatility risk. Hence, even if we wish to invest lump sum the better way is to invest in a staggered approach is prudent.

The best approach to is to opt for Systematic Investment Plans (SIPs) which helps us to sail the tides of market volatility.  This helps us to accumulate more units when markets go down. It will be best way to start a SIP in an ELSS at the beginning of the financial year. This will help average out the cost as well as will not put all burden in the last months of the year.

   

2.     Not understanding the real risk:

We all heard about this famous tagline in every mutual fund ads “Mutual Fund Investments are subject to market Risk Pease read all scheme related documents carefully”

However still we get carried away with the past performance with the belief that it will continue. Mutual funds returns are not fixed and while investing we should always keep this in mind. Further the returns also depends upon portfolio where the scheme has invested. Therefore it is always better to understand the particular scheme and its portfolio details before making an investments just based on past performance.

3.     Not Matching financial goals with the investments:

It is very important to be clear on our financial goals and select the right investment based on the goals. Making investments without goals is like starting a journey without knowing the destinations. If we don’t know the destination we may not be able to select the right vehicle i.e. whether a car is good or train or a plane and may end up selecting a wrong vehicle which may either not take us to the destination or not within our timeline.

Similarly investment should also be made based on financial goals, investment objectives, investment horizon, and risk profile which will help us to select right investment option and make our investment journey easy and enjoy full.

4.     Not selecting the right option:

 
Mutual funds have two options; growth and dividend. Growth is for those who don’t need money now and want to grow wealth for long duration to achieve financial goals later on. While dividend is for those who need money on regular basis may be to meet their regular expenses.

We should select the right option based on our specific needs so that we get the benefits as desired. Since dividend is paid out of the investors own money, just for the sake of getting money on regular basis does not serve purpose if we actually don’t need it.

 

5.     Following the tips rather than the professionals: 

One person cannot do everything. Doctor are good for advising medicines, Lawyers are good for legal matters similarly Financial advisors are required to get the right advise for our achieve our financial goals.

Some time we just get influenced by some friends/relatives or do our own research in internet to buy financial products. It is like taking medicine by searching on google will that cure or no is a big question mark.

It’s always better to take professional advice so that we are more comfortable and sure that what we are doing is right and make our financial wellness better.

6.     Over diversification:

It’s good to diversify but if it’s too much it may actually not help. Like in food if we have 5-6 items we may enjoy it but if the items are 50-60 we may not be able to enjoy them in fact get confused or eat something which may not be good for us. Diversification is must and is the core principal for investing in mutual funds, however adding too many schemes to the portfolio, especially on the equity side, adds no value. It will lead to over diversification and reduce the potential of your portfolio to generate superior returns.

It is better to invest only in few selected consistent performers tax saving schemes which offer exposure to the entire spectrum of the markets. It is also important to review the portfolio every year and replace the bad performers.
 

7.     Investing in close-ended long term funds:

ELSS schemes have lock-in period of three years, t there are schemes which have tenure up to ten years. It is good to invest for long term however investing in long term close ended schemes reduces our flexibility to take out the funds when it is not doing well.

We should invest for the long term, but opt for an open-ended scheme. The performance of different schemes keeps on changing due to various reasons so it is always better to have control in our hand so that we can shift from one scheme to other if it is not doing well.

To Conclude

Tax saving schemes helps us to save tax and also inculcates a habit of savings for long term which is very good and required for every individuals. However last minute tax planning, that also only for the sake of saving tax can lead to lower savings and inefficient investments. It is always better plan for taxes at the start of the year, to see where we stand and make adjustments later on if required. We should know the various routes to save tax on your income and a professional’s advisor can add value in our investments.