Risk comes from not knowing what you are doing
– Warren Buffet
Have you ever wondered about the income tax deductions while investing in Fixed deposits (FD) in India?
Did you get bugged by the huge tax pay-out incurred from your FD interest?
Did you want to explore something better than an FD but not very risky?
If this is what you are looking out for, then this chapter is for you.
Once a client, Aseem Bhatnagar came to me with a problem. He had inherited an amount of Rupees one crore and had earlier invested the entire amount in FD. Though he had not withdrawn any amount, he was getting irritated by the annual income tax deduction at source (TDS) at the rate of 10.3% (Tax rates may change). This turned around to be Rupees. 72,100/- annually or Rupees 200/- per day. He wanted to know the alternative but was not sure of equity funds or anything riskier. When I suggested debt mutual funds and explained the benefits, he agreed to come on board.
Not only was the tax solution worked out for him, but the numerous other benefits brought a sparkle in his eyes. He got some more money over the next 2-3 years. And he kept on investing that money as well for his elder son’s education that was around the corner and for all other goals coming up in the next 2-3 years.
Simple understanding and some strategic planning not only saved him a lot of money but also made it convenient and relaxing for Aseem. His wife also met me and thanked for the great solutions which brought them comfort and surety of suggested returns also. The safety of the core capital was their biggest worry. Having the concern resolved and being free from such fear brought more financial freedom to their family. Finally, he said, “I am now a rich person.” I was amazed at that statement since he was the same man who was earlier reluctant to switch to any investment other than FD. But now he was earning reasonable returns and getting closer to fulfilling all his infused security and comfort. That was what actually made him rich. Besides, more peace and joy led to happiness for him and his family.
Here are all those top 13 factors that I explained to Aseem.
The top 13 Reasons to Choose Debt Mutual Funds over FD (Fixed Deposits):
- Debt funds are riskier than FD: but if understood fully, you may get more returns than If you don’t redeem your initial investment over 3-4 years, you can get much better returns than any FD. For example, starting from 7-8% in the beginning, it can go up to 9-11% over five years. . (please check the latest updated returns).
- Superior Tax implications than FD: While investing in debt mutual funds, you become eligible for tax benefit when you invest your money over 3-5 years. For example, after three years, you get the benefit of long-term capital gains in debt funds. They are now taxed at 10% without indexation benefit. However, if you take the indexation benefit, you are taxed at 20%. Let’s learn more about indexation benefit. (please check the latest income tax laws for updated rates)
- As inflation in India is at around 6% today (as in December 2019), the Government of India allows you to take this benefit called as indexation This means that your investment in debt funds draw the reducing cost of actual investment when you apply this indexation inflation-linked benefit. This rate is updated by the government every year. Since the year 2001, this indexation is a significant factor. Therefore, your cost of investment gets raised by this factor on a yearly basis. Furthermore, the effect of inflation doesn’t impact your return due to unfair taxation.
- No TDS (Tax Deducted at Souce) is deducted every year on debt mutual funds. On the other hand, there is TDS deducted after a certain amount in every FD investment made by (Please check recent income tax rules, this chapter was written in December 2019 and complied with the income tax regulation prevailing at that time). However, the FD interest amount is exempt from income tax deduction up to Rupees 50,000/- per year, provided you submit a form called Form15H (check the latest regulation).
- The important thing to understand here is that Aseem Bhatnagar didn’t withdraw from this FD for five years, still TDS was deducted However, this doesn’t happen in case of debt mutual funds. You continue to enjoy the zero-tax kind of situation for years until you redeem or withdraw fully or partially.
- The risk involved: Debt mutual fund is technically also called as credit risk and interest rate If you park your amount for three years, these two risks involved in your investments, get significantly reduced. For your information, debt mutual funds consist of a variety of fixed-income investments as well.
- Debt mutual funds have varied investment options in fixed income opportunities. AMC (Asset Management Company) does not invest in only one place but multiple places. thiis reduces the overall risk, and this kind of diversity brings stability.
- Debt mutual funds are less volatile than equity mutual AMC does not invest in shares, debentures, etc. which are riskier in the short term. You do not have to worry about market volatility, and you can feel more secure while investing in debt mutual funds.
- Debt funds are the best opportunities for those looking for the consistent flow of money! Aseem Bhatnagar wanted a separate fund created for his old age He wanted a steady flow of money every month in their account. As he invested a certain amount in debt funds under his parent’s name, they started getting a fixed income. Also, this amount that was kept aside for his parents gave Aseem a surety of any urgent withdrawal if any medical emergency mushroomed. Thus, he found four benefits: safety, the security of the core amount, liquidity and decent returns. All in one! He now felt that even his parents had become rich, and he felt happy for them.
- To create a regular income from investment was also was Aseem’s primary goal. He didn’t want to work for money anymore; rather, he wanted the money to work for An amount that was equal to his basic household expenses was calculated, and a separate debt fund investment was made. This brought him a fixed amount withdrawal called SWP (systematic withdrawal plan) from his Debt mutual fund. Earlier, this option was not possible in the case of his old FD.
- Another milestone for Aseem was his 2-3-year So, he invested in a certain type of debt fund separately. While market volatility was predicted in 2019, he was recommended to invest for all his goals regarding money in debt mutual funds for the next three years. Since the time horizon was clear and fixed, fixed maturity plans were opted by him for the three- year return. The investment was estimated to give a return of around 8.5 – 9%, and he liked it.
- Are returns predictable? Looking at the fixed time, horizon- based investments brings clear return projection for that type of Varied returns are possible. While in FD, there isn’t any such concept of a variety of investments, whereas you can be happy to avail the same in debt mutual funds.
10. Can you beat inflation while remaining conservative? Yes, it is possible to beat inflation if you wish With the current inflation rate of around 6%, certain kind of debt funds can easily overtake inflation.
11. Is Debt fund investment liquid as well? Yes, it Without having to visit your bank like in FD case, here, with the press of a few buttons or a call, you can partially or fully redeem your investments. You can ask for a refund of any amount that you wish. No exit clauses. No conditions (except a certain type of debt funds, which may have exit load before one month, three months, six months and so on). ftis way, you don’t have to liquidate your full investment, and you continue to enjoy the benefits of the rest of the investment. Also, it is suggested to keep your contingency fund in liquid funds, for the reasons explained above.
12. There is also the risk of forgetting to re-invest your FD or you may not be able to visit the bank to find out the next suitable time horizon for the maturity! then why get into such Aseem’s parents, being old, didn’t want to entangle themselves in such issues. their old age, limited mobility and forgetful nature didn’t have the scope for such FD needs. Hence, debt fund investments brought this convenience and made them very happy. Here, there was no need for renewal or waiting for some maturity. Also, when FD matures, it gets renewed at the prevailing rates. therefore, future uncertainty didn’t bother his parents now.
13. Additional three features that the Rich people benefit in Debt funds:
a. SWP: Systematic withdrawal plan offers the flexibility to withdraw any amount at regular intervals like monthly, quarterly and even You can give standing instructions to get a fixed amount credited in your bank account. For Aseem’s parents, opting for SWP fetched Rupees 50,000/- on the 28th of every month. With this option, Aseem felt at ease and tension free.
b. STP: A great feature of debt funds allows you to invest a lump sum amount initially in debt then to beat the volatility risk, you can transfer a certain amount from debt to equity mutual funds every month. Usually six months period for such transfers gets you the benefit of rupee cost averaging.
c. SIP (Systematic investment plan): Another great feature of investing in debt funds is the opportunity to start investing a fixed For Aseem, starting a SIP for his son was a great feature. Gravitating solid return and the convenience of investing small amounts in the specified debt fund encouraged Aseem to invest in this fund. Since the goal was just 2-3 years away, he got the faith to invest every month. In this manner, it is a remarkable feature that is not available in the case of FD. Plus, there is no penalty if he couldn’t invest in a particular month. In this option, it saved him from the insecurity and hence brought him more happiness.
With these overall varieties of investments in debt funds, Aseem was now not only happy but content; happy to be able to monitor all his investments so transparently. With clear goals and investment made for each purpose, he was sure of the returns as well. The time horizon was too clear for each of these investments.
To summarise, not only did he feel like a rich person but also content.
He felt that his money was now working as per his profile.
His wife too felt like a Rich person.
Taressh Bhatia is a CFPCM CERTIFIED FINANCIAL PLANNER CM and is the founder/partner of Advantage Financial Planner LLP – A firm Registered with SEBI (Securities and Exchange Board of India) as RIA (Registered Investment Advisor).
If you have Liked the blog You can read more in the book – The Richness Principles.
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