Both fixed deposits and mutual funds have been popular investment avenues for investors. While the former is independent of market fluctuations, the latter may generate higher returns. However, these investment options cater to diverse preferences and objectives.
Choosing between them depends on your unique needs once you understand what these investments entail. Read on to know what they are and how they differ so you can make a smart decision.
Meaning of fixed deposits and mutual funds
Banks, India Post and non-banking financial companies (NBFCs) offer fixed deposits. This type of investment enables you to deposit a lump sum with the institution for a chosen tenor at a predetermined interest rate. Upon maturity, you receive your invested principal amount and the accrued interest earnings.
On the other hand, a mutual fund is an investment that combines the funds of multiple investors and invests them in a diverse or focused portfolio of securities such as stocks, bonds and other assets. They are professionally managed and can lead to high returns over time. There are many kinds of mutual funds, such as equity and debt funds.
How FDs differ from mutual funds
Read on to know how these two investments are different from each other based on certain factors.
Earnings and returns
The returns on a fixed deposit are predetermined. So, you can forecast exactly what you will earn by using an FD calculator. This is because the FD interest rate is not influenced by any market changes or fluctuations throughout the investment period.
The returns from mutual funds depend on the performance of financial markets and the securities they invest in. So, they are subject to fluctuations based on changing market conditions. This means you cannot bank on returns, be it your initial investment or accrued earnings.
Risk profile
Fixed deposits are considered low-risk investment instruments. This is because you are assured of receiving your initial deposited amount as well as interest payout at a predetermined rate and time.
When you choose a cumulative payout, you will receive higher interest earnings, but at maturity. On the other hand, on selecting a non-cumulative payout, you will get your interest income at your chosen frequency, such as monthly or quarterly.
The risk associated with mutual funds can go from medium to high. This depends on market volatility and the type of mutual fund you sign up for. For instance, liquid or gilt funds fall under the debt funds category and come with lower risk as compared to equity funds.
Investment amount and frequency
You can invest in FDs with a lump sum based on your financial goals and income. This requires you to have a corpus of funds ready. Usually, you can start an FD with ₹5,000.
However, today, you can also invest in FDs via an SDP or Systematic Deposit Plan. It allows you to invest a small sum every month for a chosen duration.
You can choose either a lump sum investment or go the route of a SIP (Systematic Investment Plan) when it comes to mutual funds. You can start with a SIP with a minimum amount of just ₹500. This makes mutual funds very accessible and easy to start with.
Tenure and withdrawal
Fixed deposits have a predetermined lock-in period. This may go from a week to a decade. However, if you choose to withdraw your investment before maturity, you will need to pay a premature withdrawal penalty.
To get funds in the interim, you may also take a loan against FD. To access liquidity, you can also ladder your FDs. This means booking various FDs that mature at different periods of time.
You can generally redeem your mutual fund units whenever you want via open-ended schemes. But watch out as certain mutual funds come with an exit load, which means redeeming them before a specific time requires you to pay a fee.
Certain mutual funds have a lock-in period, like Equity-Linked Savings Schemes, which require you to be invested for at least three years. Additionally, you may need to follow certain guidelines when it comes to the minimum redemption amount.
Lastly, you can enjoy liquidity at a time of your choosing when you have highly rated bonds, but this issue does not apply to debt funds. So, choosing the right mutual fund based on the liquidity you require is key.
Taxation
Income from fixed deposits is taxed at source, based on your income tax slab. This only applies when the interest exceeds ₹40,000 for regular citizens and ₹50,000 for seniors.
However, you can enjoy a tax exemption of up to ₹1.5 Lakhs when you invest in a tax-saver FD for five years. Of course, those whose income is below the taxable threshold need not pay tax on FD income by submitting forms 15G or 15H.
You can enjoy the same tax reduction of ₹1.5 Lakhs when you invest in ELSS, a type of equity-linked mutual fund. Apart from this, debt mutual funds are taxed as per your tax slab when it comes to capital gains and dividends. For equity and hybrid schemes, different rates apply on capital gains based on whether you hold them for a short tenure, under 12 months, or a longer tenure, over one year.
With this information at hand, you can select the right investment vehicle for yourself. Both mutual funds and fixed deposits have distinct features, benefits and limitations. So, consider your financial goals, risk appetite and investment timeline to select the right option or invest in both.
Whatever you decide to do, you can invest in your future financial health with ease using the Bajaj Markets App. Compare various FDs and their interest rates and book one in minutes or invest in mutual funds online via this app. Download it from Google Play or the App Store to start investing today!
