Can you give guarantee like Bank FD?

Fixed deposits (FD) are not only investments; they are an integral part of our tradition. Our ancestors have affirmed by FDs throughout their lives. Whenever they have surpluses, they invested it in a FD.

A large number of Indians invest in fixed deposits because they offer guaranteed interest as well as capital protection. This means that your hard-earned money is not going anywhere. Your money is going to be safe and you will earn a fixed interest on it as well. Both of these are reasons that have been good enough for the earlier generations to invest in FDs. But do they make as much sense even now?

The world has changed in many ways over the past couple of decades. Lifestyles have changed, dreams and aspirations have changed and even how the economy function has changed. Fixed deposits may not be enough anymore, especially for those who have joined the workforce in the past few years and have begun investing recently. For young investors, mutual funds would be a better option than fixed deposits. Let’s dig deeper to understand why.

Sure, fixed deposits offer guaranteed interest. But do you know that the interest earned is taxed at the income tax slab that you fall under? Income tax eats into the interest you earn from FDs.

Fixed deposit interest rates go down after tax
Fixed deposit rates (%) Interest earned post-tax (%)
30% tax 20% tax 10% tax 5% tax
6.5 4.55 5.2 5.85 6.175
6.75 4.725 5.4 6.075 6.41
7.00 4.9 5.6 6.3 6.65

 

As you can see from the table, the higher your tax bracket, the more you end up paying in tax from the interest you earn from FDs. In comparison, mutual funds are more tax efficient. Short-term returns from funds are taxed as per your tax slab. But long-term returns are taxed at 20% after indexation, which can come down to effectively 6-7%. So, if you hold a mutual fund for 3 years or more, you have to pay only 6-7% tax on it, irrespective of the income tax slab you fall under. This can greatly enhance your returns.

Even if we don’t take tax under consideration, the returns generated by mutual funds are higher than those by fixed deposits.

Mutual funds earn higher returns than fixed deposit interest rate of a maximum 7.25%
Dynamic bond funds Short-term debt funds Liquid funds
1-year returns (%) 11.96 9.36 6.70
3-year returns (%) 10.28 9.01 7.82
5-year returns (%) 9.38 8.90 8.27
10-year returns (%) 8.32 8.66 7.77

 

Annualized returns as on 9 June 2017

The above chart is just an illustration and no way guarantee to any funds as previous fund performance does not hold true and may not be the same in near future.

Mutual Funds are subject to market risks, read all scheme documents carefully

The interest earned from a fixed deposit is guaranteed, but the returns from a debt funds are not. However, debt funds are considerably safe investments. The returns that they earn are worth the risk they come with. After all, it is only through mutual funds that you will be able to beat inflation. The post-tax interest rate of fixed deposits will not be enough to allow your invested money to grow beyond the prevailing rate of inflation.

Apart from the higher returns that they can earn, debt mutual funds also have the following advantages over fixed deposits:

Liquidity: Fixed deposits have a lock-in period. You have to stay invested in them for the prescribed tenure or risk losing the interest earned on them. Unlike them, debt funds are completely liquid. You can withdraw your full  invested amount plus returns earned or a part of the total value any time you want.

Flexibility: Once you have invested in an FD, you can’t move the invested amount to another bank that is giving you more interest. This kind of flexibility is available with debt funds. You can move from one fund to another if the fund you have invested in is underperforming.

Systematic investments: While FDs are one-time investments, mutual funds can be used to invest systematically for long-term goals. You can spread your investments over several months by investing a small amount every month. This systematic investment method allows you to build wealth gradually.

This is how mutual funds trump fixed deposits. Young investors, who have a long earning life ahead of them, can even consider equity mutual funds over fixed deposits. Equity is an asset class that can help create wealth. Plus, long-term returns from equity funds also become tax-free.

Apart from these cases, mutual funds make sense over fixed deposits. More so when you are investing for the long-term. Mutual funds will help you reach your goals and targets quicker.

 

 

 

 

*Mutual fund investments are subject to market risks. Please read the scheme information and other related documents carefully before investing.

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