NPS vs ELSS: Which Tax-saving Investment is Right for You?

Tax may decrease your income, so you need to learn tax management for your financial planning. In India, you will find a lot of tax-saving investment options. But which one suits your needs?

Some of the popular tax-saving investments include the National Pension System (NPS) and Equity Linked Savings Scheme (ELSS). Both of them are very useful in claiming tax deductions. However, both belong to different categories.

Below, we will delve into the key differences between NPS and ELSS. This way, you can know which one is suitable for you.

What is ELSS Scheme?

ELSS is a type of equity mutual fund, which is known for its tax-saving benefits. Unlike other open-ended funds, ELSS has a mandatory lock-in period of 3 years.

It invests in different kinds of companies, big and small, across various industries. ELSS fund managers pick good companies to invest in to make your money grow over time.

Do remember that your money can go up or down based on how well the companies do. But if you hold it for a long time, there's a good chance it will grow.

As there is a lock-in period, so you can't take your money out for 3 years. This is a shorter wait compared to other tax-saving options.

What is NPS?

NPS is a voluntary, long-term retirement savings scheme backed by the Central Government. It offers you an opportunity to build a pension corpus through investments.

It is governed by the Central Government and the Pension Fund Regulatory and Development Authority (PFRDA). Any Indian citizen who is between the ages of 18 and 70 is eligible to enroll in the programme.

NPS invests in a mix of assets, spreading risk. A significant portion can be invested in stocks, but it decreases over time. The decreasing equity allocation aligns with the general reduction in risk tolerance as people age. This investment strategy is designed to balance the potential for higher returns with the need for capital preservation closer to retirement.

ELSS vs NPS

You've learned the basic definition and working of both NPS and ELSS tax-saving schemes. Now, check out a quick comparison between the two:

• Allocation of Fund:
  In NPS, your funds get invested into assets, like corporate bonds, government securities, equities, etc. The aim here is to diversify your portfolio and gradually grow your funds. Whereas, ELSS invests a minimum of 80% in equity and equity-related instruments. The fund's objective is to generate long-term capital appreciation.
• Lock in period
  A lock-in period is the timeline of your investment during which you can't make a withdrawal. If you do an NPS investment, the lock-in period goes up to retirement or the age of 60 years (whichever is earlier). The lock-in period for an ELSS scheme is 3 years. It is the shortest lock-in period among the tax-saving schemes to ensure liquidity and help you save for both: short or long-term goals.
• Minimum yearly investment 
  When you choose NPS, there is a minimum investment amount that you need to deposit. The minimum investment amount may vary based on your chosen tier. For a Tier I account, the minimum amount at the time of account opening is ₹500. For Tier II, the minimum is ₹1,000.
  The minimum investment for an ELSS scheme is ₹500. You can choose to invest in ELSS via lump sum or SIP mode. With SIP, a fixed amount will be invested in your ELSS funds as per your chosen frequency. And lumpsum allows you to invest a large chunk of money in this tax-saving equity fund.
  Withdrawals
  NPS allow partial withdrawal, up to 25% of your investment amount. And you are allowed to do the same after a 3 years of continuous investment. You are allowed to make up to three partial withdrawals in the entire life of the NPS scheme. 
  With ELSS, you don't have complex terms and conditions. You can withdraw the entire invested amount plus interest after the 3-year lock-in period. 
  Tax advantages 
  When you invest in NPS you are eligible to claim tax deduction under Section 80C and Section 80CCD (1B) of the Income Tax Act,  1961. And with ELSS, you can enjoy tax deductions of up to ₹1.5 lakh under Section 80C of the Income Tax Act, 1961.

Why Invest in ELSS?

If you want to earn higher returns and save on taxes under Section 80C of the Income Tax Act, ELSS might be a good option. However, keep in mind that this scheme involves higher market risks because most of your money is invested in stocks. Only consider this option if you are comfortable with high-risk investments. So before starting an ELSS, consult your financial advisor.

ELSS can potentially provide better returns over time compared to many other traditional tax-saving options. It also offers more flexibility than NPS. You can withdraw or close your account after the lock-in period ends.

Why Invest in NPS?

Investing in NPS is worthwhile as it can help secure a stable financial future in old age. If you fall under a higher tax-paying bracket, NPS can significantly reduce your tax burden. However, it's important to assess your financial goals, cost of living, and risk tolerance before making the investment. It is a good choice if you have a low-risk appetite and want to save regularly for retirement. Investing in NPS also offers the potential for higher returns, as a portion of your investment is placed in stocks.

You have the flexibility to change the fund manager if you are not satisfied with the fund's performance. Additionally, the scheme enables you to save on taxes, allowing for tax deductions of up to ₹2 lakhs under Sections 80C and 80CCD (1B) of the Income Tax Act, 1961.

Conclusion

Both NPS and ELSS are rich investment tools that offer unique benefits for achieving financial goals. NPS is well-suited for long-term goals like retirement planning, providing stable returns and tax savings, with a longer lock-in period. On the other hand, ELSS is versatile, offering the potential for higher returns and shorter lock-in periods, making it suitable for both short and long-term goals. However, before investing in any scheme, it's important to thoroughly evaluate your financial goals, risk tolerance, and investment horizon to ensure alignment with your requirements.

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