Passive ELSS Scheme: New Route To Save Tax!

Passive ELSS Scheme: New Route To Save Tax!

The Securities and Exchange Board of India has allowed mutual fund houses to launch passive ELSS Schemes. Let’s find out more about it.

What’s Happening?

As soon as a financial year begins, we all tend to invest a part of our income towards ELSS funds to claim a deduction under section 80C and save tax up to Rs 1,50,000.

But, if we look closely, all these ELSS funds are actively managed. This means that a dedicated fund manager looks after the portfolio and shuffles stocks from time to time. Usually, actively managed ELSS funds have a high expense ratio. 

Now, many individuals like to invest in passive mutual funds. These funds replicate the underlying benchmark. So, if your passive fund has a benchmark index – Nifty 50 – your money will be allocated to all the stocks of Nifty 50 with the same weightage as Nifty 50. 

In a passive fund, the fund manager does not have to put much effort. His/her goal is to match the returns generated by the benchmark and hence reduce cost. 

Now, the drawback we were facing to date was that if your motive was to save tax using ELSS funds, then you didn’t have an option to choose a passive fund. You had to opt for an active fund compulsorily. SEBI has allowed fund houses to launch passive ELSS funds

Benefits of Passive ELSS Funds

  • Fund Manager’s Control Over Your Investments

In an actively managed ELSS fund, the fund manager has the freedom to add stocks and remove stocks from the portfolio. But the fund manager of a passively managed ELSS fund does not enjoy such freedom. He/she does not research which stocks to buy or when to book profits.  

He/she will add stocks to the portfolio when it is added to the benchmark index and sell when a stock is removed from the benchmark. 

  • Expense Ratio

An actively managed fund has a higher expense ratio. Why? Because the more your fund is ‘managed’, the higher the expense ratio you have to pay. As your passive ELSS fund is not ‘managed’ by a fund manager, it attracts low cost. 

For example, as of August 8, 2022, the expense ratio of the Tata S&P BSE Sensex Index Fund is 0.58%, which is a passively managed fund that mirrors the benchmark S&P BSE Sensex – TRI. Whereas the expense ratio of Tata Large Cap Fund is 2.49%, which is an actively managed fund. 

You can see the difference between the two expense ratios. It’s not a nominal difference. Moreover, if you are focusing on saving tax and earning returns, then a passive mutual fund will act as a boon for you because you will have to pay a lower expense ratio, and you can also save tax!

What’s Next?

As per SEBI’s Guidelines, if a fund house has an actively managed ELSS fund, they can’t come up with a passively managed ELSS fund. 

Currently, there are 43 fund houses, out of which most offer actively managed ELSS schemes; hence, they can’t come up with a passively managed ELSS scheme. 

So, because of this constraint, very few mutual fund houses can come up with a passively managed ELSS scheme. 

I hope you found this newsletter insightful. Don’t forget to share it with your friends!

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