What are debt funds? Are debt funds better than fixed deposits in India? Are debt funds taxable or tax free? Are debt funds a good or safe investment?
There was a change in taxation in the last Budget which has made Debt Funds less attractive for Short Terms. Still Debt Funds are better than Fixed Deposits in many ways. Please read on to know how Debt Funds are better than Fixed Deposits.
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?
Debt Funds Vs Fixed Deposits – Taxation in India
Debt Funds offer many benefits compared to Fixed Deposits. Some of the important benefits are listed below:
- 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.
- 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.
- Debt Funds can be used 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 if you have a PIN for that. 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.
Will you invest in Debt Funds?
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.