How ESG Funds Combine Returns with Responsible Practices

What is an ESG Fund?

An ESG fund is a pooled investment vehicle that screens securities using explicit environmental, social and governance (ESG) measures together with traditional financial review. In practice, these funds evaluate companies using ESG metrics obtained from SEBI-registered ESG Rating Providers, issuer disclosures, and in-house fund-level research and financial analysis. ESG funds bring together sustainability aims and investment objectives, with SEBI directing ESG mutual funds to allocate a minimum of 80% of assets in securities aligned with the declared ESG strategy.

How ESG Funds Work

ESG funds apply a systematic way to identify, allocate, and track investments, confirming they align with environmental, social, and governance targets.

1. ESG Screening and Filtering

   Fund managers use ESG criteria to include or exclude companies.

   • Exclusionary screening avoids businesses involved in fields such as tobacco, weapons or fossil fuels.
   • Positive screening or best-in-class selects companies with stronger ESG performance within their sectors.

2. Investment Allocation

   After screening, managers channel investment to approved companies. This can be done through portfolios covering various sectors, or through thematic concentration on topics such as clean power or gender representation.

3. Ongoing Monitoring and Reporting

   ESG performance is tracked continuously, with fund managers observing shifts in sustainability measures, governance concerns, or controversies linked to portfolio firms. SEBI's BRSR framework improves corporate transparency and reporting, aiding investor evaluation rather than directly deciding ESG fund eligibility.

Types of ESG Fund Strategies

Different ESG funds follow specific strategies recognised under SEBI's ESG framework, offering varied approaches to sustainability and risk alignment

• Exclusionary Funds: These completely avoid investment in sectors or companies that fail baseline ESG standards.
• Best-in-Class Funds: Such funds target firms within each industry that score highly on ESG criteria compared with peers.
• Thematic ESG Funds: They focus on investment in sustainability topics like renewable energy, water management or social empowerment.
• Impact-Driven Funds: Impact funds prioritise investments expected to deliver measurable environmental or social benefits alongside financial returns.

Taxation and Investment Process for ESG Funds in India

ESG funds in India are subject to the same taxation as equity-oriented mutual funds. A short-term capital gains (STCG) tax of 20 % is charged if units are sold within 12 months. Units kept for over 12 months are subject to long-term capital gains tax of 12.5 %, without any indexation. This method aligns with normal equity mutual fund taxes while encouraging longer holding periods.

Investment Process

Investors can invest in ESG funds through multiple channels:

• Online Banking: Log in to bank internet banking portals, select "Invest in Mutual Funds," choose ESG funds, and invest securely.
• Mobile Applications: Investment apps offered by banks or asset management companies allow users to select ESG schemes, view performance, and complete transactions seamlessly.