Equity Funds: Types, Taxation, and Risks You Must Know in 2025

Making a solid financial plan is one of the most important decisions you'll ever make for your family! There are many tax saving investment options, and among them, equity funds India hold a significant place.

Equity Funds are fund schemes that invest primarily in equity stocks, and these funds are particularly popular among new investors and young professionals. Equity funds invest in the stocks and shares of all types of firms, as a result, they can create a large return and provide a diverse portfolio for the investor. Find out more about equity funds in this article!

What are Equity Funds?

An equity fund is a form of investment scheme that primarily invests in the stocks or shares of different types of firms. When these funds receive money from investors, they use it to buy a diverse portfolio of equities on their behalf, which allows the investors to engage in the stock market without actively purchasing and managing individual equities. Equities-oriented funds invest at least 65% of their assets in equities and equity-related securities, however, the allocation of assets is determined by the kind of equity fund and its investment goal. If you are wondering, what is the return potential of equity funds, the answer is, the return potential is truly great!

The funds concentrate on certain types of equities, such as large-cap, mid-cap, small-cap, or a combination of these companies. They may employ a variety of investing strategies, including growth, value, or a combination of the two to increase return. Remember, equities funds primarily own equities stocks in their portfolios, therefore the fund's success is directly related to how those stocks perform in the stock market at any moment. However, since the funds are spread over many stocks, the risk of losing money is considerably reduced.

Types of Equity Funds as Per SEBI

As we have already mentioned, equity funds are about directly investing in the share market, and unlike other financial plans, such as ULIP plans, its primary focus is only getting the best return from your investment.

Here are the types of equity funds that you can invest in:

• Large Cap Fund - Large cap funds must allocate at least 80% of their portfolio to equity-related securities of large-cap corporations, which are part of the top 100 companies in terms of total market capitalization.
• Mid Cap Fund - Mid cap funds invest at least 65% of their portfolio in mid-cap equity securities, and the companies it invests in are ranked between 100-250 in terms of total market capitalization.
• Small Cap Fund - A small cap fund must invest at least 65% of their portfolio in equity-related securities from small-cap enterprises! Small Cap firms are defined as those that rank 251st or lower in terms of total market capitalization, and small cap index fund must invest in these companies only.
• Large and Mid-Cap Fund - Such funds must invest at least 35% in equity-related products for large-cap companies and an additional 35% in equity-related products for mid-cap firms.
• Multicap Fund - Multicap funds are a unique option in the list of equity funds examples! These funds have the freedom to invest across market capitalizations, with a minimum of 65% in domestic stocks, and as a result, they may invest in large, mid, and small-cap stocks.
• Dividend Yield Fund - Such funds invest primarily in dividend-paying equities, with at least 65% of their portfolio allocated to equity-related assets.
• Value Fund - These funds use a value investment approach, which means they have to invest at least 65% of their assets in equity securities.
• Focused Fund - Such funds are concerned with the amount of stocks in a portfolio and hence have a maximum limit of 30 stocks, furthermore, such schemes must explicitly state which firms they want to focus on. They have the option to invest at least 65% of their portfolio in equity-related securities of multi-cap, large cap, mid cap, or small cap companies.
• Contra Fund - Such funds use a contrarian investment approach, which means investing at least 65% of their portfolio in equity-related products.
• ELSS - ELSS or equity-linked savings scheme must invest at least 80% of their assets in equity-related products, and they have a 3-year lock-in period from the date of investment. Good news is, such funds are eligible for a tax credit under Section 80C of Income Tax Act, 1961.

Who Should Invest in Equity Funds?

Equity funds are an excellent choice for those with long-term investment objectives to grow their wealth. These are also tax saving investment options, which is an extra benefit! SIPs, or Systematic Investment Plans, allow investors to start with a small amount and benefit from rupee cost averaging and money compounding. Remember, different types of equity funds provide exposure to a variety of industries, allowing you to invest in the area of your choosing without making you conduct extensive research on your own.

Things to Consider Before Choosing Equity Funds

When investing in equity savings funds, it is critical to examine certain factors and variables so that you know they align with your financial goals.

• Risk Tolerance - Although equity savings funds are less volatile than other common investment options, they nevertheless have stock market exposure. That means, you must assess your individual risk tolerance to make sure that you are okay with any variations in the fund's value during your investment period.
• Investment Objective - You should first determine if your long-term goals are consistent with the aims of an equity savings fund, and you should know that these funds are often intended for moderate returns with low risk. This makes them ideal for people looking for long-term investments that produce consistent returns but not instant wealth creation.
• Fund Performance - Examining a fund's previous performance is critical before you invest, so you should compare the fund's performance over a long period of time to those of its benchmark and peer funds. Also, pay attention to how it has performed in different market situations, particularly during downturns in the share market.
• Expense Ratio - The expense ratio has a direct impact on net returns, and you should always examine the expense ratios of various equity savings funds before you invest. Keep in mind, while a lower ratio is ideal, it must be seen in light of the fund's overall performance.

3 Common Risks of Debt Fund Investments

While equity funds provide several advantages, investing in the share market always comes with certain risks, so it is best that you know what you are getting into.

• Interest Rate Risk - Interest rates affect the debt part of these funds, and rising interest rates may diminish the value of existing bonds in the portfolio, which means the fund's net asset value (NAV) will decrease during that time.
• Credit Risk - The fund's debt section contains credit risk, which means that issuers may fail to make payments, and even though the fund managers often invest in high-quality debt, downgrades and defaults can have an influence on returns./li>
• Liquidity risk - This occurs when it is difficult to sell assets at reasonable prices, particularly amid market stress, and this can become a troubling situation that might cause difficulties in managing the fund's cash flows.

Tax Rules for Investing in Equity Funds

Equity funds are liable to both long and short-term capital gains, and for that reason, taxes vary.

STCG Tax - If you redeem equity fund units within a year after investing, it is considered short-term capital gain and is taxed at a 15% tax rate, lowering your total profits.

LTCG - According to current tax rules, LTCG on equity funds is 10%, but the total profit must be under Rs. 1 lakh.

Common Risks of Equity Fund Investment

• Concentration Risk - Concentration risk refers to any significant negative impact on portfolio performance caused by the underperformance of one or a few stocks of the equity fund.
• Risk of losing money - Investing in the stock market is always risky to a certain point and should only be done if investors are willing to accept the possibility of losing money in case of market collapse.
• Liquidity Risk - The liquidity of a bond can alter based on market conditions, which means your asset selling price might increase or decrease based on market strength.

Conclusion

Now that you know the equity fund meaning and all the related details, it is time to decide whether you want to develop long-term wealth by investing in equity funds. These funds provide a balanced approach to wealth development by combining the growth potential of stocks with the safety net of diversification and competent management. If you don’t want to take high risks to make quick money, investing in an equity fund for at least 5 years can be a great financial strategy!

Disclaimer: