India’s 1st Passive Tax-Saver ELSS Index Fund Launched. But Don’t Rush to Invest

After SEBI allowed the launch of passive (index-based) tax-saving ELSS funds, finally an AMC, IIFL has decided to launch India’s first tax-saver index fund. The fund – IIFL ELSS Nifty 50 Tax Saver Index Fund, as the name suggests tracks the Nifty 50.

Many of you who invest in ELSS funds might be tempted to ask – Should I invest in a tax saver index fund?

Like all existing ELSS funds, even this passive ELSS scheme will provide the dual benefit of tax saving (under Section 80C) and the potential for high equity returns

And since this will be a passive fund, it is expected that it will have a relatively low cost compared to the actively managed schemes that have a higher expense ratio. Have a look at the table below of existing ELSS fund expenses.

And now see how Nifty50 passive index funds have much lower expense ratios.

But is this reason enough to invest in India’s 1st passive ELSS fund?

No. Just because something new is on offer doesn’t mean you should rush to invest in it.

Let’s see why?

I have written about this earlier too that nowadays, active largecap funds find it difficult to beat the index. Hence for largecap exposure, better to take the passive index fund or ETF route. Plain and simple. So in such a scenario, having an option of a passive largecap index fund in the ELSS category definitely makes a lot of sense. And kudos to the fund house to take the lead in launching it.

Let’s see how existing ‘active’ ELSS fund portfolios have been managed till now. While all ELSS fund managers try to have their own strategy, the fact is that most ELSS funds have a large-cap bias (they have 60-70% in largecap stocks). There are very few which have a decent allocation to mid & small-cap stocks. But if many of the ELSS funds are closet largecap funds and in any case find it difficult to beat the index, I think there is definitely a case for passive largecap funds in India.

Now the first passive ELSS is unsurprisingly based on Nifty50. But as per the SEBI circular that allowed this product (link here), a passive ELSS fund has to be based on an index which should be only made up of the top 250 companies in India in terms of market cap.

So in future, and given the SEBI mandate of investing only in indexes with stocks from the top-250 universe, we might soon also see passive ELSS funds like

  • Nifty100 Index ELSS fund made up of all 100 large-cap companies (largecap oriented)
  • Nifty Next50 Index ELSS fund made up of 51-100th ranked large-cap companies (largecap oriented)
  • Nifty Midcap150 Index ELSS fund made up of all 150 midcap companies (midcap oriented)
  • Nifty Midcap50 Index ELSS fund is made up of the top 50 midcap companies (midcap oriented)
  • Nifty200 Index ELSS fund made up of 100 large cap and top 100 midcap companies (largecap & midcap oriented)

But there is one strangeness in this rule that allowed passive ELSS funds in India.

The fund houses cannot have both active and passive ELSS funds simultaneously! They need to choose between the two options. So if an AMC already has an ELSS fund (active one), it cannot have a passive one. This is a strange rule but it is what it is.

So the AMCs with Existing ELSS funds may not go down the Passive ELSS route at all. And why would they? Some of the tax saver funds are huge and have AUMs of Rs 10,000 Cr to more than Rs 30,000 Cr! And since active funds have a higher positive impact on AMC revenue (due to higher expenses compared to passive funds, most fund houses may not be too excited to launch passive ELSS. Also because SEBI has asked fund houses to choose between active or passive they anyways can’t offer both options. I don’t know but who knows that in future, the regulator may allow them to offer both.

All said and done, it’s true that passive ELSS funds make total sense for those who need ELSS funds. But don’t rush to invest. If you don’t need to save taxes (in Section 80C because you already have exhausted the limit), then you anyways don’t need ELSS funds. And even if you need it, you should first try to utilize EPF, VPF and PPF to fulfil your Section 80C requirements. Only then look at ELSS funds.

So wait and watch for the time being. In general, for a fund to have a sustainably low expense, it should have a reasonable size AUM as well because, for funds with small AUM, it is problematic to keep pace with the index and their tracking efficiency is also unknown initially. So let the fund do that and then take a call. By that time, we may have a few other AMCs too launching passive ELSS Funds though I don’t see this happening with those who already have existing large ELSS Funds.

Related Reading on ELSS funds –

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