Mutual Funds v/s Fixed Deposits

In Financial Planning, Mutual Funds by Urvi Khara0 Comments

A Mutual Fund is a professionally managed financial instrument that pools money from many investors to purchase securities such as stocks, bonds, money market instruments, etc.

Fixed Deposit (FD) is a financial instrument provided by banks and corporate houses which provides investors with a fixed rate of interest, which is usually higher than a regular savings account, until the pre-specified maturity date.

Mutual Funds (equity and debt) and FDs are both very favored financial instruments. A brief comparison of the instruments are as below:

Equity Mutual Funds Debt Mutual Funds Fixed Deposits
Returns Market-linked returns (12% – 15%) Relatively stable returns (7% – 9%) Fixed returns (7% – 9%)
Risk Higher risk Low/ negligible risk Safe instruments
Tax on investment ELSS investments are tax deductible u/s 80C NA Investments in 5-year tax saver FDs are tax deductible u/s 80C
Tax on redemption
  • STCG(<=1 year) – 15%
  • LTCG(>=1 year) – No tax
  • STCG(<= 3 years) – According to tax slab
  • LTCG(>=3 years) – 20% with indexation
Interest is taxable at the investors’ tax slab.
No tax on principal portion of FD.
Lock-in No lock-in No lock-in Lock-in according to the FD
Premature withdrawal Allowed with exit load Allowed with exit load Allowed with penalty

*We have assumed average returns of the last 10 years

Though equity mutual funds give higher returns in the long term, but if the investor’s primary objective is capital protection and regular income stream, debt mutual funds and FDs are more suitable.

Within fixed income instruments, if an investor wants to keep his funds invested for less than 3 years, FDs may offer slightly higher returns but lack the liquidity provided by debt funds. However, beyond 3 years, the marginal excess returns in FDs are offset by higher taxation. This makes debt funds better as they are taxed at 20% after indexation benefit.

Thus, the investor should assess his risk appetite, investment time horizon and income requirements, among other factors and then invest.

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