Tax-saving investments often come with conditions, and one of the most discussed is the three-year lock-in attached to ELSS. Being locked out of your investment for three years may not appeal to investors who want quick access to their funds.
Meanwhile, a lock-in can help investors remain invested even during the ups and downs of the market. So, is 3 years too short, or could it positively affect investors’ habits?
What is the 3-year lock-in in ELSS?
ELSS funds are equity-oriented mutual fund schemes that enjoy the tax deduction benefit under section 80C of the Income Tax Act, as applicable. One of the main characteristics is that they mandate you invest for a minimum of 3 years.
The lock-in period applies to each individual investment; for instance, if an investor invests through monthly SIP instalments, each instalment has its own three-year lock-in period, and units cannot be redeemed during that period.
It is equally important not to treat the lock-in period as an ideal investment horizon. While three years is the shortest period for which the investment must remain locked in, this does not mean equity investments will certainly perform well over exactly three years.
Why can the lock-in be a drawback?
The most obvious disadvantage is that the money becomes less liquid. Once invested, it cannot be accessed during the lock-in period, even if the investor’s financial situation changes.
This can cause discomfort if an unexpected expense arises or if you need money for a short-term objective. To do this, investors must ensure their emergency savings and short-term financial needs are met separately.
One more point to consider: since ELSS mainly consists of equities, its value will vary with market conditions. The investment will not automatically be safer just because the three-year lock-in period is ending; investors’ investments could still face market volatility when their units become eligible for redemption.
Why can the lock-in actually be an advantage?
Liquidity restrictions may also induce investment discipline. Investors cannot withdraw during a temporary market fall.
This can lessen the urge to sell during a temporary market dip for someone who doesn’t like making long-term choices. It can also help to foster a longer-term mindset, which can be beneficial with equity-oriented products.
Lock-in does not ensure higher returns, but it does eliminate one common behavioural factor: the ability to respond immediately to market volatility.
How can beginners manage ELSS investments better?
A reasonable approach is to base your investments on your financial objectives rather than choosing an equity tax-saving option just to get the deduction. It is also advisable to keep a sufficient emergency fund before putting any money into a locked-in investment, as this can increase your financial flexibility.
Anyone who is using SIPs should remember that each instalment comes with its own three-year lock-in period. Although digital platforms such as the Millions app may make it easier to manage and monitor your investments, the app cannot eliminate market risk or replace the need to understand the product.
So, is the 3-year lock-in a drawback or an advantage?
Whether this is a drawback/advantage depends mainly on the investor; it is a disadvantage if the investor needs liquidity or has a short-term financial obligation requiring the money. On the other hand, it benefits investors who gain from staying invested and avoiding hasty responses during market fluctuations.
The situation should be seen as one aspect of the investment, not as a standalone justification for deciding to invest or to refrain from investing.
Conclusion
A three-year lock-in has two aspects: it limits access to money, but it may also promote patience and discipline. The real issue is whether an investor can afford to commit the money for at least three years while taking on the risks involved in investing in equities. If the lock-in period aligns with the investor’s financial circumstances and objectives, it can be a useful part of a long-term investment strategy.
