Among all the fixed-income investment avenues, fixed deposits are the most popular. They are unaffected by market fluctuations, offer high liquidity, and guarantee returns.
But you cannot generate long-term wealth with fixed deposits alone. Of late, interest rates on FDs have been at multi-year lows because of rising inflation. In this scenario, debt funds have emerged as another popular fixed-income investment tool.
Debt funds are a type of mutual fund that invests your money in fixed-income instruments like government and corporate bonds, treasury bills, deposit certificates, etc. Like all funds, they are subject to market risks. So, many risk-averse investors may choose FDs over them.
As an investor, where should you put your money? To help you decide, here is a comparative analysis of debt funds and fixed deposits.
When you create a fixed deposit with an NBFC, you deposit a lump sum amount, decide a tenure, and earn interest on the amount during that period.
When you put your money in a debt fund, the fund manager uses it to buy fixed-income securities, such as bonds, and earn interest income. So, the returns you get from a debt fund come from the interest income.
Debt funds typically invest in a variety of bonds whose prices rise and fall depending on interest rates in the economy. The amount of interest paid on a bond is fixed. But if the price of a bond rises, your debt fund can return additional money over the interest income.
Additional Read - Mutual Funds VS Fixed Deposit : Which One Should You Choose?
FDs, especially cumulative FDs, work well in the long term. You can set your FD to get auto-renewed and earn compound interest.
Debt funds are best for short and medium-term investment plans because they do not perform optimally in the long term. To meet your short-term and medium-term needs, you can choose debt funds that have a tenure ranging from 6 months to 2 years.
| Fixed deposits | Debt funds | |
| Risk | Fixed deposits are an extremely low-risk investment option. | Debt funds offer low to moderate risk. They are much less risky than equity funds. |
| Taxation | Interest earned is added to your taxable income. If the interest is more than Rs. 10,000, 10% TDS is applicable. | Short term capital gains (holding period less than 3 years) are added to your taxable income and taxed as per your tax slab. Long term capital gains are taxed at 20% with indexation. |
| Investment option | Can only invest a lump sum amount. | Can invest a lump sum or through SIP. |
| Early withdrawal | A penalty is charged for premature withdrawals | Small exit load charges (if applicable) and expense ratio are applicable. |
Additional Read -Everything you need to know about Value Investing
If you want to achieve your short or mid-term financial goals, you should invest in debt funds. You can also choose debt funds to diversify your portfolio. You can start investing in debt funds in just a few days with Tata Capital's Moneyfy app.
Moneyfy gives you fund recommendations based on your goals and risk profile. So, download the app today and complete the online KYC.
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04 January 2022
3 mins read
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