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RGESS: Thumbs Up Or Thumbs Down?

RGESS funds allow for a deduction of up to Rs 25,000 from your taxable income for the year. If you're in the highest income tax slab, this translates to an approximate annual tax saving of Rs 8,000. Let's figure out whether this saving of (up to) Rs 8,000 is worth it or not

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Undeniably, we're a nation of 'tax saving' crazy people. Probably keeping that in mind, the government launched the "RGESS" or "Rajiv Gandhi Equity Savings Scheme" in 2013. RGESS funds allow for a deduction of up to Rs 25,000 from your taxable income for the year. If you're in the highest income tax slab, this translates to an approximate annual tax saving of Rs 8,000. Let's figure out whether this saving of (up to) Rs 8,000 is worth it or not.

RGESS: The Basics

There's a universe of approximately 70 specified mutual funds and ETF's that qualify as RGESS funds. These funds are in essence "blue chip" equity mutual funds, as the mandate restricts them from investing beyond the top 100 listed companies. Maharatna, Miniratna or Navratna companies qualify too.

You can invest any amount that you like in an RGESS fund, however - only up to Rs. 50,000 qualifies for a tax benefit of 50 per cent of the invested amount under section 80CCG. Basically, if you invest Rs. 40,000 in an RGESS fund this year, you'll be able to claim a deduction of Rs. 20,000 from your taxable income. Note that this doesn't translate to a tax saving of Rs. 20,000 - but of approximately "20,000 multiplied by your highest applicable tax bracket".

It's seriously complex

The eligibility criteria and other processes involved are enough to make your head spin. Summing up:
* You need to be a first time equity investor, who has never held equities or derivatives in demat form before November 2012
* You need to open a demat account to be able to invest in an RGESS, and that's a pretty tedious process in itself.
* Your income must be less than 12 Lacs per annum
* As far as the complex rules related to 'fixed' and 'flexible' lock-ins go, it's probably not even worth venturing into that territory. It suffices to say that it's just better to invest and stay put for 3 years, if you must invest in an RGESS.
* In addition, there's the hassle of making multiple declarations - you need to submit Form A in order to declare that you'd like the account to be considered for the scheme's benefits

Aashish Sommaiyaa, MD & CEO, MotilalOswal AMC sums it up succinctly when he says, "The fact that RGESS has to be an index linked product held in demat form and hence an ETF, makes it complex. Operationally and structurally an ETF behaves like an MF but trades like a stock, hence it ends up appealing to neither MF investors & equity investors not to mutual fund distributors and stock brokers."

The returns have been sub-par
For all the hassles, you'd assume that you'll get some serious incremental value creation in the bargain, right? Wrong! Without getting into detail, it's worth knowing that most RGESS funds have underperformed other high performing large cap equity mutual funds. At best, they've more or less mimicked the returns of the NIFTY.Sommaiyaa says, "All RGESS products mimic an underlying index and it is mandated to replicate the top 100 stocks as required in RGESS regulations. Hence, performance is in line with major indices. For instance, Nifty returns are negative in last one yearand in single digit CAGR in last 2-3 years. Active funds have delivered way better in most cases."

The Final Verdict?
Let's simplify the decision. A tax saving of Rs. 8,000 works out to approximately 16 per cent of Rs. 50,000 (the invested amount). Spread over 3 years, this translates to the tax benefit accounting for an incremental 'return' of 5 per cent per annum (compounded) vis a vis other high quality mutual funds. We'd rather invest the Rs. 50,000 in a top ranked blue chip mutual fund and take our chances with respect to a 5 per cent annual out-performance, than go through the endless hassles for a saving that is essentially a pittance.

Sommaiyaa concurs. He says, "I would advise against RGESS. Investors are better off investing in actively managed funds available in the ELSS category which are operationally also more convenient to access."

In a nutshell - RGESS is best avoided.