Debt Funds Vs FD Vs RD in India

What are debt funds? Are debt funds better than fixed deposits and recurring deposit in India? Is debt fund a good or safe investment?Are debt funds taxable or tax free? Let us compare Debt Funds vs FD vs RD in India.

There were few changes in taxation which made Debt Funds less attractive for Short Terms. Still Debt Funds are better than Fixed Deposits (FD) and Recurring Deposit (RD) in many ways.  Please read on to know how Debt Funds are better than FD and RD.

What are Debt Funds – Meaning

Debt Funds invest your money in different types of debt products like Treasury Bills, Corporate Bonds, Government Bonds, Money Market Instruments etc. Depending on the nature of Debt Funds, it will invest in Short Term or in Long Term Debt Instruments.  While Long Term Debt Funds are volatile due to interest rate fluctuations, Short Term Funds are not volatile. Short Term Debt Funds will offer returns similar to Bank Fixed Deposits. Then how Debt Funds are better than Fixed Deposits?

Are Debt Funds Tax Free?

No, debt funds are not tax free.The gains from Mutual Funds are taxed as Capital Gains and it can be Short Term or Long Term.  If you are selling the Debt Mutual Funds after holding it for 3 years, then the gains will be treated as Long Term Capital Gains. Such gains will be taxed at 20% after indexation benefits. Indexation will help you in reducing your tax liabilities to a high extent. In periods of high inflation like in the recent past, you can even get NIL tax after indexation. But if you are selling the Debt Funds within 3 years, then the gains will be taxed as per your tax slab.

In FD, the gains are taxed according to your tax slab, every year.

Is Debt Fund better than FD/RD?

Yes, Debt Fund is better than FD/RD if you are an Indian Resident.

In Case of NRIs, FD is better than debt funds as FDs offer tax free returns.

Debt Funds Vs FD Vs RD

Debt Funds offer many benefits compared to FD and RD. Some of the important benefits are :

• If you are a resident individual, there is no TDS when you are redeeming the Debt Funds.
• You can postpone your tax liability, if you invest in Debt Funds. This is because the tax liability in Debt Fund arises only at the time of selling the Fund. In case of Fixed Deposits, you have to pay tax every year on an accrual basis. This will reduce your maturity amount in case of Fixed Deposits.
• For retired persons, Debt Funds are very attractive for the monthly expense management. They can withdraw from the Fund using Systematic Withdrawal Plan. This will act as a pension for them.
• You can use debt funds as a parking ground, for investing in Equity Funds. If you have a lump sum amount to invest in Equity Fund, it is better to invest it at various levels of the market to average out the cost. You can invest the lump sum in the Debt Fund and opt for a systematic transfer plan to the Equity Fund. This will help you in averaging out the cost in Equity Funds.
• Investing in Debt Funds is very easy. If you have a folio with the Fund House, you can invest in any of the funds of the Fund House in the same folio. You can invest online too. Another advantage is the flexibility in withdrawal. You can withdraw any amount as per your choice. The remaining amount will continue to be invested in the Fund. This is almost like a Savings Account in terms of flexibility.

Also Read: Best Multicap Funds to invest in 2019

Are debt mutual funds safe?

No, debt mutual funds are not as safe as fixed deposits. Debt mutual funds carry the risk of credit ratings and interest rate . Since these funds invest in 40-50 companies, the impact of credit downgrading of 1-2 companies have less impact on debt mutual funds.

The NAVs of the debt mutual funds increases when the interest rate false and it decrease when interest rates rise. There is inverse relationship between interest rates and NAVs of debt mutual funds.

Are debt funds risk free?

No, debt fund are not risk free. As discussed above, debt funds have their own sets of risks like interest rate risk and credit risk.

Also Read: Best Investment Options in India 2019

What factors affect the returns of a debt mutual fund?

The following factors affect the returns of debt mutual funds:

• Credit Risk of Companies
• Interest Rate Cycle
• Inflation

Is it safe to invest in debt mutual funds?

Yes, it is safe to invest in debt mutual funds but risk in investing in debt mutual funds is a bit higher than fixed deposits.

Conclusion – Debt Funds Vs FD

If you are not paying Income Tax, then for you Debt Funds and Fixed Deposits offer similar returns. But if you are in the higher tax slabs, it makes sense to invest in Debt Funds to save tax. When you are paying 30% tax on your interest income in the case of FD, you may end up paying almost NIL tax in the case of Debt Funds with indexation benefits.

But if your investment horizon is less than 3 years, stick on to your FD.

So, what us your view on debt funds Vs FD? Please share your views in the comment box.