Investing in tax-saving mutual funds: How to choose between lump-sums and SIPs

The only reason why one would pick ELSS funds over any other equity fund is for the additional benefit of tax saving. After all, ELSS funds are nothing but common equity funds with a three-year lock-in. Aren’t they?

The ELSS funds category competes with several other options in Section 80C. But if the decision to save taxes via investing in ELSS funds is taken, then comes the next question.

Lump-sum versus SIP in ELSS funds

When you invest a lump-sum in ELSS funds (or any equity instrument in general), it means that knowingly or unknowingly, you are trying to time the market. You can never be sure whether the market is at a low or a high. So, there is always this risk of catching the market at the precisely wrong time. To be fair, there is also the (good) risk of catching the market at perfectly the right time.

It is for this reason and investors’ inability to perfectly time the markets that generally, it’s a better idea to stagger your equity investments via SIPs. And this is true for ELSS SIP as well as all other equity fund investments. That way, you can avoid the risk of being completely wrong as your investments are spread over a period of time and average out.

It is already February now and very close to the end of FY2021-22. If you still haven’t invested in the ELSS funds till now but want to, then most probably, the only option left for you is the lumpsum. Or you can divide the lumpsum into a few parts and spread it across the remaining few weeks of this financial year. Staggering investments in ELSS fund over the last few weeks isn’t exactly like SIP-spreading-bets but nevertheless, go ahead with it if you want.

How this approach pans out is something that we cannot predict. It can go either way:

-A case in point is the catastrophic month of March 2020 when Indian markets cracked by almost 35-40% in a matter of months. If someone had invested a lump-sum then in an ELSS fund, it’s possible that returns by now would be very high (in less than 2 years).

-On the other hand, imagine if someone had invested a lump-sum in ELSS funds around January 2008 - the peak of the previous bull market and after which, markets fell by 50-60% over the next year. A lump-sum investment would have fared poorly compared to SIP.

So to be fair, both approaches of SIP and lump-sum can and will work in different scenarios. At times, lump-sum approach will work better and other times, your plain vanilla SIP will win.

SIPs suit those with limited cashflows

The idea of SIP is also suitable for those who don’t have any lump-sum in the first place. There only obvious option is SIP.

But what to do if you have a lump-sum and don’t want to put it all in one go? The simple solution is to park it all in a debt fund and then run a monthly STP into an ELSS fund so that your lump-sum is gradually eased into the ELSS funds every month.

As I mentioned earlier, now not much time is left for those contemplating lump-sum vs SIP in tax-saver ELSS funds. But please make sure that if you require ELSS funds for tax saving next year (April 2022 to March 2023), then it’s better to start a SIP in ELSS funds at the start itself. That is the most practical approach that you can easily implement.

And please don’t think that you need a new ELSS fund each year. Nothing like that. If the fund is doing well, you can keep investing in the same ELSS fund for several years.

Just one more thing about SIP and lump-sum in ELSS funds. Each investment (purchase) transaction in the ELSS fund has its own individual three-year lock-in. So not only your lump-sum will be locked-in for three years, each of the SIP instalments will also be locked in for three years individually. That is, each monthly SIP instalment will have a different end date for its three-year lock-in period.