Of late it looks like several investors are seeking different options of investment with regards to bank fixed deposits. There has been a surge in people asking for advice on the varied options available for investment of the proceeds of fixed deposit maturity funds.
There are several people who synchronize the term of their fixed deposits with each financial year. People with fixed deposits that are nearing their maturity and those who do not require it at the moment are currently seeking different investment avenues for the lump sum that they will receive.
Most people are not aware of any other investment options besides bank deposits when they want to organize their savings. Fixed deposits however do not offer great returns. Also, the interest earned on fixed deposits is taken as income which is liable for taxation according to the income tax bracket that the individual falls under.
The above is one of the primary reasons why it is advisable for people to invest their savings in debt-based mutual fund schemes instead of keeping it in fixed bank deposits. Debt-based MFs may provide market-linked yields that may be slightly higher as compared to returns of bank deposits.
When investments are made into debt MFs with a time period of over 3 years, then such funds are also more likely to yield better returns after tax. It may be noted that the tax applicable on debt MF schemes that are held for more than 3 years is 20 percent along with indexation benefit. The taxes that are actually payable by the investor are thus reduced significantly to single digits in inflationary situations due to indexation.
It is important to note that the taxes applicable to both debt mutual funds and bank deposits that are held for less than 3 years are almost the same. Interest or returns that are earned by the investor become a part of the income and then get taxed according to the tax bracket of the investor.
People who want to explore and investigate the space of debt based mutual funds need to know that there are many types of MF schemes. Investors need to select a fund that aligns with their investment goals and time frame as well as their risk capacity.
Presented below are different kinds of debt MFs.
- FMPs or Fixed Maturity Plans: These funds can be considered a good substitute for FDs for people who fall under the higher income tax slab. These funds are closed-ended schemes with a definite maturity period. Their investments are most in instruments that are similar to their maturity period and the policy that is followed is ‘purchase and hold till the tenure.’ This strategy ensures that it does not have the risk of interest rate. The return offered by a fixed maturity plan is similar to the securities that make up its portfolio with minor variation. Additionally, these funds come with credit risk, meaning that the yields of the fund will be impacted if any of its portfolio securities experience a downgrade in ratings.
- Liquid funds: These MFs are those that come with very low levels of risk. Such funds have investments in extremely liquid instruments of the money market. The residual maturity of the securities that such funds put their monies into is not more than ninety-one days. People can thus place their savings in such funds from some days to 2 to 3 months. The returns offered by liquid funds tend to be somewhat higher as compared to bank deposits. For instance, the returns of liquid fund category for the last year were over 6.40 percent. These funds are ideal for people who want to place their savings for some days to a few months and get good returns on it.
- Ultra short term mutual funds: These funds are considered as low risk MFs. A large percentage of their investments are in short-term debt instruments while a minor part is invested in long-term debt instruments. These funds are however not as risk-free as compared to liquid funds. People can invest their money in ultra short term funds for some months to 1 year. In the last year, the return offered by this category was over 6.89 percent.
- Short-term funds: The investments of ‘short-term funds’ is typically focused on debt instruments with the average maturity being 1 to 3 years. These MFs provide better returns when the interest rates over the short term are higher. They are ideal for people with investment duration of some years. The return provided by the category over the past year is over 6.40 percent.
- Dynamic bond funds: These funds feature a portfolio that is actively managed and which dynamically varies as per the fund manager’s view of the interest rate. The investment of such funds is across all categories of money market and debt securities with different levels of maturity. Dynamic bond funds are ideal for individuals who want the fund manager to do the work on selecting investments as per interest rates. The returns posted by this category last year was more than 4.24 percent.
- Credit opportunities funds: It is a kind of debt fund with investments in debentures and corporate bonds that have an under ‘AAA’ credit rating. The basic strategy of the fund is investing in securities with low ratings, but with strong basics, and which may see a possible upgrade in the ratings in the following months/years, thereby proving beneficial for investors and enriching the portfolio. Such funds come with higher credit risk. A ratings downgrade or a default in the portfolio constituents of the scheme may adversely impact the returns of the fund. Credit opportunities funds are not the right choice for meeting goals that are non-negotiable.
- Income funds: These funds come with increased vulnerability to interest rate changes. The investment of such funds consists of government bonds, corporate bonds, and money market securities with long duration maturity periods. These funds are ideal for people who have a long term horizon of investment and have high capacity for risks. The correct time for investment in income funds is when there is increased likelihood of a fall in the interest rates. The returns posted by this category last year for over 5.11 percent.
- Debt-based hybrid funds: A large chunk of the investment for these funds is in debt, while a minor portion is allocated to equities. Additional returns will be offered by the equity section of the fund’s portfolio; however, such exposure to equities also increases their risk as compared to schemes with only debt instruments. People with an investment horizon of 3 years or more than 3 years may opt to invest in such funds.