Mutual funds are one of the most popular investment options among investors. Besides, they are also an excellent tax-saving instrument. The reason mutual funds are so intriguing is that they provide professional fund management, diversification, convenience, and liquidity. In this article, we will discuss how to use mutual funds for tax planning with tips and strategies that can help you save tax.
What are Mutual Funds?
Mutual funds are investment vehicles that pool money from different investors to invest in various financial instruments such as stocks, bonds, or short-term debt. Mutual funds are managed by portfolio managers who are responsible for investing the money pooled by the investors in different asset classes to generate returns for them. Mutual funds offer investors the advantage of diversification, which is not possible when investing in individual stocks or bonds. By investing in mutual funds, investors can access professional money management and invest in a range of companies and sectors.
Types of Mutual Funds
Two broad types of mutual funds are Equity Funds and Debt Funds. Equity funds are mutual funds that invest in shares of companies. They are also known as stock funds. Debt funds, on the other hand, invest in fixed-income securities like bonds, debentures, and treasury bills.
Equity funds, again, come in different types:
- Large-cap Funds: These mutual funds invest in companies with large market capitalization.
- Small and Mid-cap Funds: These mutual funds invest in companies with medium or small market capitalization.
- Multi-cap Funds: These mutual funds invest in shares of companies across market capitalization.
- Sector-Specific Funds: These mutual funds invest in shares of a particular sector.
- Thematic Funds: These mutual funds invest in shares of companies that follow a particular theme.
Debt Funds, again, come in different types:
- Liquid Funds: These mutual funds invest in short-term securities and are highly liquid.
- Short-term Funds: These mutual funds invest in securities with a short-term maturity of 1-3 years.
- Long-term Funds: These mutual funds invest in securities with a maturity period of more than three years.
- Gilt Funds: These mutual funds invest in government securities.
- Credit Opportunities Funds: These mutual funds invest in lower-rated bonds that offer higher returns.
Benefits of Investing in Mutual Funds
- Professional Management: Mutual funds are managed by experienced fund managers who have the expertise to invest in the best possible securities and financial instruments.
- Diversification: Mutual funds invest in a range of securities across various industries and sectors, thus providing diversification benefits to investors.
- Liquidity: Mutual funds are highly liquid, which means investors can redeem their investments at any given time. However, there may be exit loads.
- Convenience: Investing in mutual funds is easy and convenient, with investors being able to buy and sell mutual fund units via online platforms or mobile apps.
- Tax Benefits: Mutual funds offer tax-saving benefits under certain schemes and investments, which can help investors reduce their tax liability.
Tax Saving through Mutual Funds
- Equity-Linked Saving Scheme (ELSS) Funds: ELSS funds are a type of equity mutual fund that offers tax deductions up to ₹1.5 lakh under section 80C of the Income Tax Act. Investments made in ELSS funds are locked in for three years, after which they can be redeemed.
- Dividend Reinvestment Plans (DRIP): Many mutual fund houses offer DRIP options, where dividends earned on mutual fund investments are reinvested in the same mutual fund scheme. DRIPs are an excellent way to accumulate wealth in a disciplined manner while reducing tax liability.
- Systematic Investment Plans (SIPs): SIPs are another effective way of tax saving through mutual funds. By investing in mutual funds via SIPs, investors can accumulate wealth in a disciplined manner and enjoy tax-saving benefits under various schemes.
Tips for Investing in Mutual Funds for Tax Planning
- Choose the Right Fund: While investing in mutual funds for tax-saving purposes, it’s essential to choose the right fund. Look for mutual funds that offer tax benefits and have a good track record of performance.
- Invest Regularly: Investing in mutual funds should be a disciplined exercise. Regular investments via Systematic Investment Plans (SIPs) can help investors accumulate wealth in a tax-saving manner.
- Consider the Lock-in Period: Some mutual fund schemes come with a lock-in period, which means investors cannot redeem their investments before the expiration of the lock-in period. Investors should consider the lock-in period while investing in mutual funds to ensure that their investment goals are aligned with the scheme’s investment horizon.
- Stay Invested for the Long-term: Investing in mutual funds should be a long-term strategy. Staying invested for the long term can help investors enjoy the benefits of compounding and accumulating wealth in a tax-saving manner.
- Monitor Performance: Investors should monitor the performance of their mutual fund investments regularly through their investment app. For instance, In Bajaj Finserv app, you can review the fund’s performance, financial ratios, and investment strategy all in one platform. Continuous monitoring will ensure that the investment objective is being met.
How to Choose an App for Mutual Fund Investment
- Convenience: The app should be easy to use and navigate, with features like a user-friendly interface, user manual, and customer support.
- Security: The app should have robust security features such as two-factor authentication, secure login, and encryption technology to ensure the safety of investors’ data and transactions.
- Variety of Funds: The app should offer a range of mutual fund schemes across different categories and fund houses to allow investors to diversify their portfolios and achieve their investment goals.
- Cost: The app should be cost-effective, with no hidden charges, and offer transparent fees to investors.
Investing in mutual funds can be an excellent tax-saving strategy, with investors being able to enjoy professional fund management, diversification, and liquidity, among other benefits. By choosing the right fund, investing regularly, considering the lock-in period, staying invested for the long term, and monitoring performance, investors can make the most of their mutual fund investments. Additionally, by choosing the right app for mutual fund investment, investors can enjoy the convenience, security, and variety of funds to achieve their investment objectives.