Are equity mutual funds the best choice for long-term investments?

long-term investments

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According to the Securities and Exchange Board of India (SEBI), an equity fund is the one that invests at least 65% of the corpus in equity and equity-related instruments. As such funds majorly have equity exposure, they are highly known for their higher risk and higher return potential.

Equity mutual funds while in the short-term period may be volatile, they have a huge potential of generating high returns over the longterm by a wide margin. Read on to understand some of the important parameters that make an equity fund prudent for long-term investment.

Helps your investment portfolio generate inflation-beating returns

One of the crucial reasons to invest in equity funds is that your capital tends to grow more quickly than inflation. Inflation refers to the rate at which products and services become more costly per year. If your investment fails to cross the inflation rate, you tend to lose money even if your investments generate positive returns. To understand it better, look at the example below.

Assuming the inflation rate is recorded at 8%, you invest in three distinct financial products generating varying returns.

Investment option Rate of inflation (percentage) Appreciation year on year (percentage) Inflation-adjusted growth in the capital (percentage)
X 8 6 -2
Y 8 8 0
Z 8 14 6

In the above table, you can see that investment option Z is able to overcome inflation to generate an inflation-adjusted capital growth of 6%. Note that in the investment arena, equity funds are one of the few investment options that have the potential to generate inflation-beating returns over the longterm.

Forms a diversified investment portfolio

For attaining a long-term goal, you must form a strong portfolio that can assist you to remain on track. To form a robust portfolio, a perfect mix of reward and risk ratio is crucial, so that if one asset class fails to perform then the other asset class can make up for the losses. Adding in equity funds permits you to diversify your investment portfolio, which helps in times when other investment products in your portfolio may be underperforming.

Tax benefit

Tax benefit is one of the important reasons to prefer equity mutual funds for meeting your long-term goals.

Fund type Short-term capital gains (STCG) Short-term capital gain tax (STCG) Long-term capital gain (LTCG) Long-term capital gain tax (LTCG)
Equity mutual funds Investment for less than one year 15% Investmentheld for over one year For up to Rs 1 lakh in a year, no tax is incurred. For a capital appreciation of over Rs 1 lakh in a year, 10% is charged on capital appreciation.
Debt mutual funds Investment for less than three years Taxed as per your tax slab Investment held for over three years 20% after indexation

As shown above, LTCG tax on equity mutual funds is nil if your capital appreciation is up to Rs 1 lakh in a financial year. Beyond this, you are taxed at 10%. However, for debt mutual funds, LTCG tax is 20% on capital appreciation with indexation benefits while STCG is taxed according to your income tax slab. Additionally, if you want to save tax, you can invest in an Equity-Linked Savings Scheme (ELSS)fund that allows you to save up to Rs 1.50 lakh under section 80C of the Income Tax Act, 1961.

Ending note

While equity mutual funds do have a certain degree of risk associated over the short term, they are known to provide better capital appreciation over the longterm. So, ensure to include equity funds in your investment portfolio to earn inflation-beating returns, create a diversified portfolio, and save tax.

Additionally, to determine the monthly contribution towards a specific financial goal through your equity contribution, you can use an online Systematic Investment Plan (SIP) calculator. The online SIP calculator simply requires inputting your corpus requirement for a specific goal, the time horizon left to achieve the goal, and the expected annual returns. Once you input these figures, the online SIP calculator instantly displays your monthly contribution requirement and your interest earned on that contribution.

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