Should you invest in PPF or ELSS?

While we are not underplaying the importance of finding the right investment, the heavy lifting
of any financial plan starts well before investment selection. Do you have concrete financial
goals that you've taken the time to prioritise and quantify? And does your savings rate put you on
track to reach those goals? If you have such a plan in place, the question would be automatically
answered.
Before we move on, let us look at both investment options.
The Public Provident Fund, or PPF, and an equity linked savings plan, or ELSS, are eligible for a
deduction under Section 80C of the Income Tax Act, which has been upped to Rs 1.50 lakh in
last years Union Budget.
The amount you invest in PPF is eligible for a deduction, the interest earned is tax free and the
entire amount on maturity (principal + interest accumulated) is also tax free. In other words, it is
exempt from tax all the way what is referred to as EEE.
When you invest in an ELSS, you get the deduction under the relevant section. Since the money
has to stay invested for at least three years, there is no long-term capital gains tax that has to be
paid.
As far as the tax benefit goes, both score high. The differences are stark when looking at the risk
barometer.
Since the return in PPF is guaranteed and is backed by the government, there is no risk
associated with it. The icing on the cake is that investments in a PPF account cannot be attached
under any court order with respect to any debt or liability of the account holder.
But while PPF is identified as a risk-free investment, no investment is 100% free of every
possible risk. Any investor who parks too much money in fixed-income assets can face other
types of risk such as inflation risk and shortfall risk. A high rate of inflation would erode the
value of your savings. Shortfall risk is the risk that an investments actual return will be less than
the expected return, or more accurately, the return needed to meet ones investment goals. Then
there is the issue of liquidity too - should the investor need the money for some emergency it
would be difficult since the PPF has a lock-in period of 15 years.
The return in PPF has declined over the years. From 12% at the turn of the century, it dropped
down to 11%, then 9.5%, 9% and finally 8% where is languished for many years. Between FY12
and FY15 the rate hovered between 8.6% and 8.8%.
If you take the average inflation by year, the CPI from 2008 to 2013 has fluctuated between
8.32% and 12.11%. (Source: Inflation.edu). All in all, the PPF has not done an excellent job in
consistently beating inflation over the last few years.

If we look at the average returns of the ELSS category over the past 10 years, as on January 2,
2015 they stood at 16.64% annualised. Do note, this is just the average return and there will be
funds that have delivered a more superior performance - SBI Magnum Taxgain Scheme 93
(Growth) tops the list with a return of 21.43%.
However, stocks have a much higher level of risk in the conventional sense, in that you could
lose all your money and never recover it. At the same time, an investor who buys and holds a
mostly stock portfolio generally faces less of a shortfall risk than the investor who parked the
same amount in a fixed return investment over many years.
Investors can fall short of their financial goals for many reasons--key among them is
undersaving. But if you're saving for a long-term goal, holding too much in investments with
little to no short-term volatility--but commensurately low returns--can help exacerbate shortfall
risk.
That might seem like an out-and-out indictment of PPF. Not so. To achieve investment success
(which we define as reaching your financial goal), investors must have a portfolio that blends
various asset classes.
If your portfolio does have a very heavy equity exposure, then by all means exhaust the Section
80C limit with an investment in PPF. However, do take into account your principal repayment of
the home loan, childs tuition fees, contributions to Employee Provident Fund, or EPF, and
premiums paid for life insurance before assuming that you need to invest Rs 1.50 lakh in PPF.
On the other hand, if your equity exposure is much less than desired, then you could look at
ELSS. But dont be in a tearing hurry to sell your fund units on completion of three years. Exit
from the fund when the market is rallying so you walk away with a profit. If this means hanging
on for a few more years, do so.
So in conclusion, there is no simple right or wrong with regards to PPF and ELSS. Both are
completely different products. PPF must find a place in every investor's portfolio, but so must
equity. Good tax management can go a long way toward enhancing your return. But the decision
needs to be made in conjunction with your overall portfolio and not in an ad-hoc fashion.
Like we mentioned at the start, if you had your overall portfolio plan in place, you will be much
less likely to make decisions that you would regret later. And you would be less likely to react to
short-term returns of certain funds that could, in hindsight, be a flash in the pan.