SIP vs lumpsum in ELSS Funds tax saving: Which is better?

It is that time of the year when people are looking for some last-minute tax saving. And amongst the many available tax-saving options, the tax-saver ELSS funds are one of the popular ones. It has the potential for generating high returns in addition to allowing the investors to complete their tax-saving quota of Rs 1.5 lakh under Section 80C. But when it comes to investing in ELSS funds, the question of whether to go for SIP vs Lumpsum in ELSS funds is what many people have in mind.

Now to be fair here, there isn’t exactly anything unique about the ELSS funds when compared to other categories of equity funds. It is just like any other regular equity fund with an added lock-in of 3 years. And since the portfolio is invested in equities, it comes with all the obvious risks associated with equity investing.

Many people don’t understand that unlike investing lumpsum in debt instruments (like investing Rs 1.5 lakh lumpsum in PPF), investing lumpsum in equity is open to the risk of incorrect timing in markets. You might get it right and earn handsome returns or you may end up being wrong with your lumpsum investment timing and have unsatisfactory portfolio experience, i.e. poor returns on your ELSS investments.

So people need to understand whether they should invest lumpsum in ELSS funds or instead go for systematic SIP in ELSS funds to stagger their investments.

But before we have this discussion of SIP vs Lumpsum in ELSS funds, let me highlight something about the ELSS lock-in and its relevance to the idea of investing in equity for the long term.

Tax-saver ELSS funds have a lock-in of 3 years. But that doesn’t mean that these are good to remain invested only for 3 years. ELSS is an instrument from the equity asset class, and hence, suitable only for long-term investments. Ideally, you should be prepared to remain invested in equity instruments for a minimum of 5 years. Or if need be, for even longer. Why? Because the equity markets can be negatively volatile in the short term and if you want to earn good returns, then you may have to wait for long.

Now let’s come back to the discussion at hand

Lumpsum vs SIP in ELSS funds

One of the first things to understand here from a common-sense perspective is that

the decision to invest lumpsum or SIP in ELSS funds depends on whether the investor actually has enough investible surplus that can be called as a lumpsum. Right?

So if one doesn’t even have this ‘lumpsum’ to start with, then this entire premise of SIP vs lumpsum in mutual funds is meaningless. It’s only when this ‘lumpsum’ is actually available that this comparison holds any relevance.

And once the lump sum is there, the next question should be whether investing in one go is better or whether it’s wiser to spread that lump sum over a short period of time, as there can be several best ways to invest a large sum of money in mutual funds. Just because the lump sum is available doesn’t mean that the money should be invested in one go. There are can various other tactics to deploy it more efficiently. But nevertheless, there are those who prefer SIP and have SIP success stories to tell and there are those who prefer lumpsum investing.

And to be honest, both methods work in different set of circumstances. The best part about SIP is that you can align it with your monthly income and start small. You can go for Rs 1000 SIP or Rs 5000 SIP or Rs 10000 SIP or Rs 15000 SIP or Rs 20000 SIP or Rs 25000 SIP or Rs 50000 SIP or even a monthly SIP of Rs 1 lakh! Also, do read how to save Rs 1 crore using ELSS funds. And before you decide to invest more than Rs 1.5 lakh in ELSS funds every year, please do read this – Should I invest more than Rs 1.5 lakh in ELSS funds?

So let’s try to do this comparison as objectively as possible.

When it comes to investing a lump sum in markets, it simply means that you are trying to time the market. It may be consciously or otherwise. And to be fair, timing the markets is very difficult, even for so-called experts. You cannot be sure whether the market, when you invested the lumpsum was at a low or not. And if it wasn’t, then there is always the danger of catching the market at the wrong time. To be fair, let’s also acknowledge that its possible you may end up catching the market at perfectly the right time. Then obviously you will make tons of money.

But point is – do you really know when is the right time to invest in the market? If you do, then you are a good investor and will make money. But if you aren’t, then by putting money in one go, you are taking a chance that may or may not go in your favour.

Or if you are among those who are generally late to save taxes and wake up around February-March every year to do so, then you would be handing the reigns to fate as to whether your lumpsum Rs 1.5 lakh investment in ELSS in February or March will work in your favour or not.

It is for this reason and people’s inability o perfectly time the markets that it’s generally advisable to stagger investments in equity. And not just ELSS. Even non-ELSS type investments in equity as well. This is one way of avoiding the risk of being completely wrong by getting your entry timing all wrong.

Please understand that there is nothing wrong with investing lumpsum in ELSS. It is just that most of us cannot predict the market accurately and hence, we are better off staggering our investments to average the purchase cost. SIP is not perfect but still, it’s the best option for common investors. And this can be the ideal way for new investors to invest in equity markets without having to worry unnecessarily about timing the market and trying to arrange a large amount in one go.

In a rising market, your lumpsum investments in ELSS funds will produce higher returns than SIPs. That’s because the cost of purchase in a lumpsum investment in a rising market would always be lower than the average cost of purchase in SIP, which is spread out across higher and higher purchase prices for each SIP instalment.

In a falling market, the SIP investing would result in comparatively lower losses than that in lump sum. And that is because the cost of purchase in a lumpsum investment in a falling market would always be higher than the average cost of purchase in SIP.

Here is how it looks:

So in some cases, SIP in ELSS may give better returns than lumpsum investing. While in other cases, lumpsum in ELSS will give a better return than SIP investing. And in many other cases, the result of both will be pretty similar.

Imagine investing lumpsum in December 2007 when markets were peaking and then helplessly witnessing the fall down till March 2009. On the other hand, if you invested a lump sum in the crazy month of March 2020 instead (at the bottom), you would have generated almost 100% returns and Doubled money in just few months.

Due to their structural nature, SIPs reduce this risk of being completely wrong as the investments are spread out. So asking whether is this the right time to invest in SIP is immaterial as SIP spreads out your investments. Ofcourse your returns will depend on how the markets play out during the spreading-out period. But that is how it is.

For small investors, SIP is also suitable from their cashflow perspective. They rarely have access to large lumpsum that is ‘surplus enough’ to be available for long term investing. Remember that SIP is a tool to optimize returns and match your investment needs to your cashflows. It is not a magician’s magic to generate superior returns to lumpsum investing. Read that again.

And it is for this reason that SIP is better suited when investing for long term goals like retirement or early retirement, children’s future or something like having Rs 1 crore for child’s 18th birthday. Or for the overall and comprehensive financial planning.

But what to do if you have lumpsum now but want to invest it in ELSS funds gradually?

Depending on the market conditions, investor’s investment horizon and risk (and volatility) appetite, a deployment strategy may have to be worked out. This strategy may either aim for lowering risk or maximizing returns or a combination of the two. One way is to put lump sum investment in a scheme from suitable debt mutual fund categories and gradually deploy the money using STP or Systematic Transfer Plan into the ELSS fund.

One more good thing about ELSS funds is that it’s a useful route for new investors to get into stock markets in the initial guise of tax-saving. When they begin investing in ELSS schemes, they get introduced to the concept of equity and its potential for wealth creation. And that is important when they begin to invest more seriously and in a structured manner in later years.

By the way, many people get confused about ELSS lock-in periods in the case of SIP. Let me clarify this here for once and for all. If you invest in ELSS as lumpsum, then the entire amount is locked-in for 3 years. But If you invest via SIP, then each ELSS SIP installment is a fresh investment with a new starting date. So the SIP on 23rd March 2021 will be locked till 23rd March 2024. Next month’s SIP on 23rd April 2021 will remain locked till 23rd April 2024 and so on. A month after, the SIP of 23rd May 2021 will be locked in till 23rd May 2024. It’s not that only the first SIP’s date is considered for lockin. Each SIP installment will have its own end date for the lock-in to be completed.

Additional reading: How many ELSS funds to invest in?

All said and done, SIP is a comparatively safer option but we cannot deny that at times, lumpsum investing will provide better returns if the entry is timed correctly.

ELSS scheme is an excellent option to grow your money and save tax simultaneously. There are other tax saving options as well like PPF Vs ELSS or NPS vs ELSS, etc. But with regards to ELSS schemes, you may question as to which is better for ELSS lumpsum vs SIP. But for most investors, SIP in ELSS funds is better as it allows you to spread your investments throughout the year which in turn reduces the risk of entering the market at the wrong time. On the other hand, if you invest large lumpsum at one go, then it’s possible that you may end up investing at the high point of the equity markets. And if the markets fall sharply thereafter, then you will rue your entry timing. So to avoid such timing risk, it’s better to opt for the SIP in ELSS funds.

And for those who are looking to do some last-minute tax-saving investments, don’t be under the impression that you will do a lumpsum investment in the ELSS fund during the end of the financial year to save taxes and get it right every time. It may not work in your favour every time. So better take the SIP route for ELSS investing.

I hope you found this discussion on should I invest lumpsum or SIP in ELSS funds in India 2021 useful for your tax-saving investments.

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