Primer on Where you can start investing in debt Funds

Is your money lying idle in the bank?

You don’t know need it immediately or you don’t know what to do with it?
So at times it just sits in your account or your bank suggests doing a fixed deposit.

Should you park it in fixed deposit or invest in a debt Fund?
Most of us get into a Fixed Deposit without considering tax implication and rate of return.
What is better way out to channelize idle money or savings considering following 4 factors-

  • Safety
  • Tax Efficiency
  • Return
  • Liquidity

You can consider parking idle money either in Liquid Fund or Ultra short income as an alternative depending on time horizon.

What is Liquid Fund?
Liquid Funds invests primarily in very short duration securities of reputed bank and financial institutions. Maturity of these securities is between 1 to 3 months only. They are regarded as high in safety and highly traded (meaning very liquid). You can invest lump sum amount or park monthly surplus money in this fund.

What is Ultra Short Income Fund?
Short term income Fund primarily invests in short duration securities of bank and corporates of more than 90 days maturity. You can expect little extra return in this fund than liquid fund. If you don’t have requirement of funds for more than 3-6 months, Ultra short term funds are for you.

How I am benefited by investing in these funds?
Interest earned from fixed deposit is clubbed with your income and you end up paying tax as per your bracket up to 30%. Where as in case of Debt funds you pay only capital gain tax on the appreciation.

For your better understanding, Let us consider an example. If you invest Rs. 1 lakh in fixed deposit and debt fund each at the rate of 10% for one year. Your tax implication and return will compare as below if you hold investment for 1 year period.

  • Particulars
  • Income Funds
  • Bank Fixed Deposit
  • Investment Amount (Rs)
    • 1,00,000
    • 1,00,000
  • Rate of Return/Interest Rate (%) (p.a.)
    • 10%
    • 10%
  • Tenure (Days)
    • 366
    • 366
  • Gross Value after 1 year (Rs.)
    • 1,10,000
    • 1,10,000

  • Gain on Investments
    • 10,000
    • 10,000
  • Capital Gain Tax (@11.33%)
    • 1,133
  • Tax on Interest Income (@30.9%)
    • 3,090
  • Net Value after tax (Rs)
    • 1,08,867
    • 1,06,910
  • Effective Rate of Return (%)
    • 8.87%
    • 6.91%

So you are better off in Investing in debt funds if you see tax adjusted returns.

How safe are liquid funds?
We assume that Bank deposits are high in safety reality is only deposit up to Rs. 1 Lakh is insured. . Actual risk in liquid fund is close to zero as they invest in very short duration securities.

Fixed Deposits are illiquid, in need of emergency you have to bear penalty to break deposit, whereas these debt funds are highly liquid. You can get back money in your account in 1 or 2 days.

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