ELSS vs NPS: Know The Difference, Features & Benefits

When planning for tax-saving investments in India, most individuals look for options that offer not just deductions under Section 80C but also long-term financial growth. Two such popular choices are the Equity Linked Savings Scheme (ELSS) and the National Pension System (NPS). But how do you choose between the two? Is one better suited to your goals than the other?

Our comprehensive guide on NPS vs ELSS will help you understand how each works, their features, differences, and benefits. Whether you're investing for retirement or wealth creation, knowing the details will help you make an informed decision.

What is ELSS (Equity Linked Savings Scheme)?

An Equity Linked Savings Scheme (ELSS) is a type of tax-saving mutual fund that primarily invests in equity and equity-related instruments. Usually, at least 80% of the fund's corpus is invested in stocks. ELSS is unique because it offers the dual benefit of tax deduction and potential wealth creation.

Key Features of ELSS:

• Lock-in period: 3 years (shortest among all Section 80C investments)
• Equity exposure: High, typically 80–100%
• Returns: Market-linked, can vary based on performance
• Tax Benefit: Up to ₹1.5 lakh under Section 80C
• Investment mode: Lump sum or SIP (Systematic Investment Plan)

ELSS is ideal for investors who are comfortable with market risks and want higher returns over the long term. Since it invests in equities, returns can be volatile in the short term but tend to stabilise and outperform traditional instruments over longer durations.

Additional Read: https://www.mstock.com/articles/elss-redemption-withdrawal-rules

What is NPS (National Pension System)?

Regulated by the Pension Fund Regulatory and Development Authority (PFRDA), the National Pension System (NPS) is a government-backed retirement savings scheme. It aims to provide pension income to individuals post-retirement. NPS allows investment in a mix of equity, corporate debt, and government securities, and offers flexibility in terms of asset allocation and fund management.

Tiers in NPS:

Tier I Account (Mandatory):

• Meant for retirement savings
• Lock-in until age 60
• Tax benefits under Section 80CCD(1), 80CCD(1B), and 80CCD(2)
• Partial withdrawals allowed under specific conditions

Tier II Account (Optional):

• Works like a savings account
• No tax benefit
• Withdrawals can be made anytime

Flexibility in NPS:

• Asset Allocation: Investors can choose their preferred ratio of equity and debt (Active Choice), or opt for automatic allocation based on age (Auto Choice).
• Fund Managers: NPS offers flexibility to switch fund managers and investment options once per financial year.
• Tax Benefits:
  • Up to ₹1.5 lakh under Section 80CCD(1)
  • Additional ₹50,000 under Section 80CCD(1B)
  • Employers' contribution under Section 80CCD(2) (useful for salaried individuals)

NPS is designed primarily for retirement planning and encourages long-term disciplined investment.

Key Differences Between ELSS and NPS

While both ELSS and NPS offer tax benefits and long-term investment opportunities, they differ significantly in their structure, liquidity, risk profile, and purpose.

• Purpose: ELSS is meant for wealth creation with tax benefits, while NPS is specifically aimed at creating a retirement corpus and generating a pension post-retirement.
• Lock-in Period: ELSS has a lock-in of just 3 years. NPS Tier I, on the other hand, is locked until the investor turns 60.
• Tax Benefits: ELSS allows tax deduction under Section 80C (up to ₹1.5 lakh), whereas NPS offers additional benefits under 80CCD(1B) (extra ₹50,000).
• Returns: ELSS returns depend entirely on the performance of equity markets. NPS returns are more stable as they’re diversified across asset classes.
• Liquidity: ELSS allows redemption after 3 years. NPS has strict withdrawal norms, especially for Tier I accounts.
• Post-Retirement Benefits: ELSS has no pension element. NPS mandates using 40% of the corpus to buy an annuity, providing regular income post-retirement.
• Tax on Maturity:
  • ELSS: Gains above ₹1.25 lakh are taxed at 12.5% (LTCG)
  • NPS: 60% of the corpus can be withdrawn tax-free at maturity; 40% must be used to buy an annuity (taxable as per income slab)

Summary Table: ELSS vs NPS

Note: Section 80C benefits, under the Income Tax Act, are only available if you opt for the old tax regime. If you have chosen the next tax regime, the only tax benefit will be via the employers' contribution under Section 80CCD(2).

Benefits of Investing in ELSS

ELSS is popular among salaried individuals and young investors due to its unique mix of tax savings and high return potential.

1. Short Lock-in Period

The 3-year lock-in makes ELSS the most liquid tax-saving option under Section 80C. It offers more flexibility than PPF or NPS.

2. Higher Return Potential

Since ELSS invests primarily in equities, it offers a higher return potential, especially over a long investment horizon. Historically, ELSS funds have generated average returns of 10–14% annually.

3. SIP Option

You can invest in ELSS through monthly SIPs, making it easier to develop a disciplined investing habit while averaging market risks.

4. Tax Efficiency

While LTCG tax applies beyond ₹1.25 lakh of gains, the overall tax efficiency of ELSS remains high due to the long-term nature of investment and lower effective tax rates compared to interest-bearing instruments.

5. Ideal for Young Earners

Young professionals with a longer investment horizon and higher risk tolerance can benefit greatly from the compounding effects of ELSS.

Benefits of Investing in NPS

NPS is designed for building a retirement corpus and provides some unique advantages to long-term investors.

1. Dual Tax Benefits

The additional deduction of ₹50,000 under Section 80CCD(1B) is exclusive to NPS, making it a great tool for saving more tax beyond the 80C limit (under the old tax regime).

2. Diversified Asset Allocation

Unlike ELSS, NPS invests in a mix of equities, corporate bonds, and government securities, reducing overall portfolio risk.

3. Low Cost Structure

NPS is one of the lowest-cost investment products available in India. Fund management charges are minimal, which boosts long-term returns.

4. Retirement Security

NPS ensures you build a retirement corpus. The annuity component offers a steady stream of post-retirement income, providing long-term financial security.

5. Flexible Investment Options

NPS allows you to choose between Active and Auto modes, and also lets you switch fund managers. This flexibility empowers investors to tailor their portfolios as they age or as their risk appetite changes.

ELSS vs NPS: Which One Should You Choose?

There’s no universal answer to this question. The right choice depends on your age, financial goals, risk tolerance, and retirement planning.

Choose ELSS if:

• You are young and want to grow wealth aggressively
• You are looking for a tax-saving instrument with shorter lock-in
• You have long-term financial goals like buying a house, funding education, etc.
• You are comfortable with equity market volatility 

Choose NPS if:

• Your primary goal is retirement planning
• You are a conservative or moderate-risk investor
• You want to save additional tax beyond Section 80C, up to ₹50,000 under section 80CCD(1B)
• You prefer a structured long-term saving product with pension support

Many investors choose to invest in both ELSS and NPS to enjoy the benefits of market returns while also securing retirement income and maximising tax savings.

Conclusion

The ELSS vs NPS debate doesn’t end with one being better than the other. It depends on gaining clarity regarding what suits you best. While ELSS offers short-term lock-in and higher returns through equity exposure, NPS is a structured, long-term retirement solution with added tax benefits.

For someone beginning their financial journey, combining both ELSS (for wealth creation) and NPS (for retirement security) could be a strategic move. Understanding the NPS Pension Scheme and Equity Linked Savings Scheme fully is key to choosing the right mix based on your unique financial situation.

Choose wisely, invest consistently, and align your strategy with your life goals.