Why Debt Mutual Funds Are Better Than Fixed Deposits

The fixed deposit investment avenue has been a very popular option among many Indian investors for many decades now. The low-risk factors earned FD such popularity. However, the situation has changed in recent years. Due to the falling interest rates on FD are also suffering and thus there has been a slow and marked shift from investment in fixed deposits to debt mutual funds. 

Debt mutual funds vs fixed deposits

There must be a very good reason behind why Indians are shifting from their most chosen investment avenue of a fixed deposit to debt mutual funds. Let us discuss why. 

A rise in popularity of mutual funds

During the demonetisation of 2016, the mutual funds were able to cash in on the opportunity that was available due to the reduced deposit return sales. Also, the scheme of tax-saving mutual funds contributed a lot to its rise in prominence. A majority of the Indian investors who fall in the middle-income category would rather avoid risk if they can help it and start shifting from fixed deposits to mutual funds due to the liquidity it offered. 

The capital protection that FDs guaranteed earlier was the reason why almost every Indian person invested their extra funds into an FD account. Unfortunately, that period is now as good as over. Maybe if the economy recovers, fixed deposits can become as popular again. 

Inflation adaptability of the two investment avenues

Everyone fears inflation as it can reduce their savings by a great deal as it leads to a significant loss in currency value. So people will of course, want to park their money in schemes that will soldier through inflation well. In the case of a fixed deposit, the adjusted return wouldn’t amount to much during inflation. However, debt mutual funds pace through inflation well and it will have significantly higher returns. 

Taxation on fixed deposits and debt mutual funds

The interest you earn through FD is added to your total income and taxed as dictated by the slab rate. TDS is applicable on this interest earned, but you can adjust it later with your tax liability when filing for the ITR. The amount will be deducted if the interest earned in a year is above Rs. 40,000 for regular investors and Rs. 50,000 for senior citizen investors. 

In the case of debt mutual funds, the dividends that are earned from them are not taxable, but the norm is that the mutual fund will deduct a Dividend Distribution tax which will be adjusted from the final dividend that the investor will receive. If you liquidate your investment before 36 months, the gains will be added to your income and taxed according to the current slab rate. 

Note that a tax saving FD, with a maximum deposit amount of Rs. 1.5 lakh is totally exempt from tax. 

Premature withdrawal

Fixed deposits do not allow investors to withdraw the amount before it reaches maturity. In case the investor wants to withdraw the amount prematurely, they have to pay a penalty that is lower than the rate of interest. This act of premature withdrawal is also called breaking the fixed deposit. This is a strict convention followed by fixed deposit schemes. 

In the case of debt mutual funds, if you want to make a premature withdrawal, there will be no penalty charged at all. You won’t lose the tenure and the scheme will continue with the rest of the deposit fund. Premature withdrawal doesn’t affect the interest rates of Mutual funds. A penalty is applicable only for one year. 

There are good enough reasons behind this transition from fixed deposit to debt mutual funds. You can compare and apply loans between them from the points stated above. 

The risk factor associated with mutual funds, although a little high, is worth it because it yields better returns than FD, especially in this fallen economic situation. So, if you think you have the appetite for risk factors, by all means, opt for a debt mutual fund investment scheme instead of a fixed deposit.