PPF vs ELSS: Rate Cuts on Small Savings Schemes Widen the Gap

In April 2016, the reset of interest rate on small savings schemes was changed from annual to quarterly basis. The main motto behind this reset was to avoid a larger gap between market-linked government-securities (G-sec) and the rates of small savings schemes. Also, the quarterly reset was implemented to bridge the gap between the savings schemes and the low-interest rate bank deposits.Since then, Public Provident Fund (PPF), Senior Citizen’s Savings Scheme (SCSS), National Savings Certificate (NSC), Kisan Vikas Patra (KVP), Sukanya Samriddhi Yojana (SSY) and post office deposits have undergone quarterly rate cuts. And the onset of COVID-19 has tremendously affected the economy with the Sensex suffering a steep decline. To cope with the unprecedented economic instability, the Reserve Bank of India has further slashed policy rates.PPF has always been the most favoured investment instrument among the middle-income earners preferring low-risk investment with relatively fixed interest rate and good long-term returns. An additional benefit is the tax exemption on the investment amount as well as the gains. But on 31stMarch 2020, government declared the rate cuts for April to June 2020 quarter as follows:

Both Equity Linked Savings Schemes (ELSS) and PPF are considered as viable options for long-term financial goals. But the interest rate slash for PPF has further increased the debate over ELSS vs PPF. PPF allows a maximum investment of Rs. 1.5 lakh. If the interest rate was 7.9% on the PPF, your annual investment of Rs. 50,000 would have fetched Rs. 14,53,506. But with the assumption of 7.1% interest rate for the same tenure, the same investment amount will accumulate Rs. 13,56,070. You will be earning around Rs. 1 lakh lesser than you would with the old interest rate.Moderate risk investors can benefit from equity investments that offer higher returns. From the BSE Sensex index set in 1979 to 2019, the Sensex has led to a Compound Annual Growth Rate (CAGR) of around 16%, the highest returns compared to other asset classes. So, equity investments will continue to generate better returns.For example, if you invest Rs. 50,000 annually, in 15 years you will be accumulating Rs 28,19,812 at a CAGR of 15%. Even if you assume a lower CAGR of 12%, the same investment amount will give you Rs. 21,02,064. The return is still higher than the maturity amount of your PPF at the slashed interest rate.This does reflect a widened gap between ELSS and PPF returns after the rate cuts, increasing the comparison of ELSS vs PPF. However, before deciding ELSS vs PPF, chalk out your short-term and long-term financial goals. Choose an investment based on your age, income, expenses, number of dependents, and your risk appetite.ELSS suits best for young investors who have moderate to large risk appetite to deal with market vagaries. PPF is ideal if you prefer staying away from market fluctuations and want a safe, government-backed investment.

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