PPF versus ELSS – Which is a better investment?

PPF or ELSS – Which is a better investment? – is a question in mind of many savers and/ or investors. While both these instruments are popular among people seeking tax exemption under Income Tax Section 80C, their objectives & eventual returns can be different.

Before we begin, let’s try to understand each of these & their pros and cons.

(For the uninitiated, PPF – Public Provident Fund, ELSS – Equity Linked Savings Scheme)

PPF versus ELSS - Which is a better investment?

PPF – Public Provident Fund

PPF is run by government of India, with an objective of mobilizing savings of small investors. It provide a fixed rate of returns, interest rate of which might be updated periodically. Currently the interest rate offered in PPF is 8%. It can be opened for a period of 15 years (and extended in blocks of 5 year each). Partial withdrawals are permitted after 7 years of subscription (or after 5 years in some cases like medical treatment or kids’ higher education ).

You can currently invest maximum of Rs. 150,000 in PPF in a financial year (minimum of Rs. 500)

Benefits of PPF

  • It is safe as it is guaranteed by the government of India.
  • Returns are usually better as compared to fixed deposits & usually little higher than inflation rate.
  • Returns are tax free. It falls under EEE (Exempt, Exempt, Exempt category) – Tax exemption on initial deposit, tax exemption on interest earned & tax exemption on withdrawal.
  • Above benefits make it a good tool for capital protection.

Drawbacks of PPF

  • Historically equities have given better returns, so users may want to evaluate them before investing. This may particularly be true of people who are young and/ or have higher risk appetite.
  • High lock-in period can be a deterrent for several people.
  • Some salaried people may be better off with VPF (Voluntary provident fund) which generally offer interest rate higher than PPF.

ELSS – Equity Linked Savings Scheme

ELSS is a mutual fund with a lock-in period of minimum 3 years & provide tax exemption of up to Rs. 150,000 per year (total limit of all possible investments under Section 80C). This amount typically invested in stocks/ equities. Barring the lock-in period & tax advantage, these are like any other mutual funds.

Benefits of ELSS

  • Typically equities (and equity mutual funds) have given better returns in long run vis a vis fixed returns instruments. Several ELSS funds have given 15%+ returns in last 5 years. Even if one tones down the expectations & economy & market do reasonably well in future, one can expect good returns.
  • Most of the major fund houses in India provide ELSS. So, you can choose the fund house with which you want to invest.
  • ELSS has a shorter lock-in period vis a vis other tax savings instruments – 3 years.

Drawbacks of ELSS

  • ELSS is subject to market risk. So, you may end up making a loss or getting lesser than expected returns.
  • You may have to pay capital gains tax (depending upon the profits from other equity/ MF investments)
  • If volatility makes you uneasy, then you may be better of investing in fixed returns instruments (even though potential returns are lower)
  • If you are not looking for tax saving part (you may cover it via other investments), then you may choose from a wider range of mutual funds and not just ELSS (and hence no lock-in period). May work as fine.

My take

If you are planning for long term, both capital protection & capital appreciation are necessary. PPF offers capital protection, while ELSS offers potential for capital appreciation. Your choice should depend upon your objectives, risk profile & temperament.

(You may also want to read about asset allocation)

Personally, I like PPF because of risk-free returns they provide. For equity investment part I may consider any (hopefully good!) mutual fund and not just ELSS, if Section 80C limit has already been fully utilized.

PS – There are many other investments within Section 80C which can be evaluated. However, I have limited this discussion to PPF versus ELSS only, as this seems to be quite a common question in minds of investors.

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