How does ELSS lock-in period encourage a disciplined investing approach?

Investing in equities requires a disciplined approach. One of the most significant challenges that investors face is the tendency to withdraw their investments in panic during market volatility. This behaviour can lead to potential losses and hamper long-term wealth creation. To address this issue, Equity Linked Savings Schemes (ELSS) funds were introduced with a mandatory lock-in period, encouraging investors to stay invested in the scheme regardless of market conditions.

In this article, we will discuss how the lock-in period in ELSS funds promotes a disciplined investing approach.

• Table of contents

1. Understand lock-in period in ELSS funds
2. Benefits of the lock-in period in ELSS fund
3. How ELSS fund is promoting disciplined investing approach?

What are ELSS funds

Equity-Linked Savings Schemes (ELSS) are mutual funds that invest at least 80% of their assets in equities and related instruments.. ELSS funds also offer tax benefits under Section 80C of the old regime of the Income Tax Act, 1961, with a deduction limit of Rs. 1.5 lakh per year. These funds have a mandatory three-year lock-in period, encouraging a long investment horizon. They also offer significant capital appreciation potential in the long run.

Understand lock-in period in ELSS funds

ELSS (Equity Linked Savings Scheme) funds are mutual funds that invest in equities and offer potential tax benefits to investors. They are designed to promote savings and investment among investors, while also providing tax deductions under Section 80C of the Income Tax Act, of 1961.

ELSS funds are unique in that they have a lock-in period of three years, which means that investors cannot withdraw their investments before the completion of three years from the date of investment. The compulsory lock-in period is intended to encourage investors to stay invested for the long term and to discourage short-term trading.

Additionally, like other mutual funds, even ELSS funds are managed by professional fund managers who invest the pooled money in a diversified portfolio of equity stocks. The fund managers aim to generate capital appreciation by investing in a mix of equity and equity-related instruments, while also ensuring that the investments are aligned with the objectives and risk profile of the scheme.

Benefits of the lock-in period in ELSS fund

There are several features of ELSS funds over the lock-in period, including:

• Duration: The lock-in period for ELSS investments is 3 years. This means that once you invest in an ELSS scheme, you cannot redeem or withdraw your investment for a minimum of 3 years from the date of investment.
• Commitment: Investors need to commit to keeping their funds invested for the entire lock-in period. Partial withdrawals or premature redemption is not allowed during this time.
• Tax benefits: ELSS investments offer tax benefits under Section 80C of the Income Tax Act, 1961. Investors can claim deductions of up to Rs. 1.5 lakh per financial year on the amount invested in ELSS schemes. Moreover, capital gains from ELSS schemes are classified as LTCG and taxed above the Rs. 1 lakh annual exemption limit.
• Long-term investment: ELSS is designed as a long-term investment vehicle. The lock-in period encourages investors to stay invested for a longer duration, which may help in generating potentially higher returns over time. This is because of the power of compounding. When returns are reinvested, they can go on to earn further returns. Over time, this can have a multiplier effect. The longer the investment horizon, the more significant the potential impact of compounding. A compound interest calculator can help you visualise this. You can input different investment horizons to see the resultant change in return potential to understand the benefits of long-term investing. A lumpsum mutual fund calculator can similarly help investors considering a one-time lumpsum investment.
• Flexibility: After the completion of the lock-in period, investors have the flexibility to either redeem their investment or stay invested in the ELSS scheme based on their financial objectives.

How do ELSS funds promote a disciplined investing approach?

How does the lock-in period in ELSS funds promote discipline? Lock-in periods in ELSS funds promote a discipline in the following ways:

• Encourages long-term investing: The lock-in period encourages investors to adopt a long-term investing approach, which is essential for potential wealth creation. By restricting withdrawals, investors are forced to stay invested for the long haul, which can help them ride out short-term market volatility and potentially benefit from the power of compounding.
• Reduces emotional investing: The lock-in period helps investors avoid making emotional decisions based on short-term market fluctuations. Investors are less likely to panic and withdraw their investments during market downturns, which can help them avoid potentially significant losses.
• Helps investors avoid market timing: The lock-in period helps investors avoid trying to time the market, which can be a risky strategy. By staying invested for the long term, investors can ride out interim volatility without trying to predict market movements.
• Promotes discipline: The lock-in period promotes discipline among investors by restricting their ability to make frequent changes to their portfolio. This discipline helps investors stay focused on their long-term goals and avoid making impulsive decisions based on short-term market trends.

Conclusion

The lock-in period in ELSS funds is a critical feature that promotes a disciplined investing approach among investors. By restricting withdrawals for a specified period, ELSS funds encourage investors to adopt a long-term investing approach, reduce emotional investing, and foster discipline. By investing in ELSS funds with a lock-in period, investors can develop a habit of disciplined investing and avoid market timing, which can potentially help them to achieve their long-term financial goals.

FAQs

Can I withdraw my investments before the lock-in period is over?

No, investors cannot withdraw their investments before the three-year lock-in period is over.

Do ELSS funds offer any tax benefits?

Yes, ELSS funds offer tax benefits to investors under Section 80C of the Income Tax Act, 1961. Investors can deduct up to Rs 1.5 lakh per year from their taxable income by investing in ELSS funds.

Can I invest in ELSS funds through SIP?

Yes, many ELSS funds offer a Systematic Investment Plan (SIP) option, which is a convenient and affordable way of investing in mutual funds. You can also use an SIP goal calculator to evaluate your potential returns and effectively plan your investments.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
This document should not be treated as endorsement of the views/opinions or as investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.