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Is it a bad idea to consider a tax saving fund now? - Outside View by PersonalFN

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Is it a bad idea to consider a tax saving fund now?
Nov 28, 2013

Equity markets recently scaled to a new high. S&P BSE Sensex breached the psychological mark of 21,000. If you have not yet invested a single rupee in equity oriented tax saving mutual funds this year, you must be facing a dilemma now. Those who couldn't invest till now might be thinking whether to enter at current market levels or to wait further for market correction. The current rally has surprised many. When markets were warming up for the rally in September, macro-economic indicators were not very supportive. The industrial growth was muted and consumer price inflation, led by food inflation was high. The Foreign Institutional Investors (FIIs) were exiting India as there was a speculation that the U.S. Federal Reserves (Fed) in would wind down its bond buying programme targeted at providing monetary stimulus to U.S. economy. Indian rupee was hitting lows and the Reserve Bank of India (RBI) took hawkish stance in measure to tame the inflation bug. While inflationary pressures yet persist, the concerns over macroeconomic variables such as rupee (recovered by about 10% from its low) and CAD seems to have reduced, and thus the RBI rolled back some stringent measures taken by it earlier to prop up the rupee. Decision of the Fed to continue providing stimulus, triggered a relief rally across the globe. But now that speculation of Fed withdrawing the stimulus has resurfaced, markets are on the edge again with a negative bias.

So, what should be your approach to invest in tax saving funds now?
Those who have missed investing in tax saving mutual fund schemes (also known as Equity Linked Savings Schemes (ELSS)) to avail a tax deduction benefit are left with limited options. At this juncture it would be wise to stagger investments over the next few months as investing in lump sum may prove to be damaging.

You see, to avoid being in such tricky situations, it is better not to keep tax planning pending till last moment. There are a number of advantages of doing tax planning right from the start of a new financial year. Let's discuss few of them.

Less pressure of timing the market: If you invest periodically, you need not bother about the market level as you try to even out the impact of market volatility by buying at regular time intervals. Systematic Investment Plans (SIPs) in promising ELSS funds may relieve you from the responsibility of timing the market and power you market-linked tax saving portfolio with the benefit of rupee-cost averaging and compounding. So say you want to invest in Rs 48,000 in ELSS; it is would be wise to opt for a monthly SIP of Rs 4,000, which can help you manage the volatility of the market better for the entire year.

Less stress on your finances: Very often it so happens that the end of the financial year while investing in tax saving instruments in their endeavour to optimally save tax, pressure are felt by many on their finances, as it effectively leads to cash outflow although you are investing. Some investors in order to manage the situation even redeem their existing investments and reinvest to avail a tax benefits under section 80C of the Income Tax Act, but what they fail to understand is that they miss an opportunity of expanding their investment pool, which can help them to create a corpus to achieve their life goals.

Helps take well-informed decisions: It is imperative to recognise that without prior planning, you may end up choosing an inappropriate tax saving mutual fund scheme(s) for your tax saving portfolio. So by planning well in advance, you would have more time at your recourse which would facilitate you to carry out thorough research over funds that could generate attractive returns for your portfolio and help you take well-informed decisions.

The right way to tax planning...
PersonalFN is of the view that you should take holistic view of your finances; i.e. you must consider tax planning as a part of your overall financial planning instead of considering it in isolation. Considering you financial circumstances before investing to save taxes is important. Your income, age, monthly expenses, goals, years left in attaining those goals are a few factors that might affect selection of investment instruments that you might include while building your tax saving portfolio. For example, if you are young and unmarried you might afford to take a little higher risk, and incline your tax saving portfolio more towards market-linked investment products than one who is married and has a dependent family.

In a nutshell...

PersonalFN is of the view that you should make an attempt to complement your financial planning exercise with your tax-saving (by considering the aforementioned aspects of age, income, risk appetite and financial goals) as this would enable in making a prudent investment decision. Moreover, please do not wait till the eleventh hour as this may lead you to making a wrong choice.

While considering an ELSS fund for your market-linked tax-saving portfolio, give importance to those ELSS funds that have completed at least 3 years of track record and select funds from fund houses which follow strong investment systems and processes. Don't get just lured by the returns chart which you mutual distributor exhibits to you, as remember there's more to a mutual scheme than just returns. Look for the consistency in the performance instead, with relevance to risk and returns, portfolio turnover ratio expense ratio and the portfolio of the ELSS fund(s).

PersonalFN is a Mumbai based personal finance firm offering Financial Planning and Mutual Fund Research services.

Disclaimer:

The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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