Fixed Deposits vs Mutual Funds - Know the Difference
where to invest?
When it comes to saving money, Fixed Deposits (FDs) are the most preferable option for the investors. The reason being, it is one of the oldest saving instruments and deemed to be the safest with a fixed rate of return.
But is it still the most appropriate investment option in the current times? Does it still provide the best returns? Or there are other investments like Mutual Funds that provide greater returns and help achieve a goal in a better way?
Read on to know which one out of Mutual Fund vs. Fixed Deposit is a better investment option.
FD or Mutual Fund
FD, also known as Fixed Deposit, is a popular saving instrument provided by banks for short-term and long-term investments. The rate of return on FDs is fixed and pre-decided by the Government of India; hence the growing inflation doesn’t impact the return on these investments. Notably, the FD returns are taxable for the investors but the FD investments are eligible for tax deductions under Section 80C of the Income Tax Act.
Mutual Funds, on the other hand, are market-based investment instruments with no fixed rate of return. However, during the long run, they have been observed to give 10-15% return, which is pretty higher than that given by FDs. There are 3 types of Mutual Funds – Debt, Equity and Balanced.
Debt Mutual Fund invests a majority of the investment amount in government bonds, corporate bonds, and securities and the rest of the amount in equity markets whereas Equity Mutual Funds invest more in the equity market and lesser in government bonds, corporate bonds, and securities. Balanced Mutual Funds invest partially in both Debt and Equity Funds.
Difference between FD and Mutual Fund
It is still a question whether to invest in a Mutual Fund or in a Fixed Deposit. The following comparison of Mutual Fund vs. Fixed Deposit is based on certain parameters that might help you make a decision.
Return on Investment
A Fixed Deposit offers pre-decided returns which do not change throughout the tenure of investments whereas Mutual Funds offer better returns on long-term investments as they are market-linked. Longer the tenure of investment, better the returns from Mutual Funds.
Rate of Return
The interest rate on FDs is generally fixed depending on the tenure and type of FD. Hence, they are not expected to give a higher rate of interest. On the other hand, the rate of return on Mutual Funds depends on the market volatility as well as the type of fund. When the market goes high, you can expect higher returns and vice-a-versa.
Fixed Deposits are considered to be the safest with almost no risk as the returns are pre-determined whereas Mutual Funds contain high risk as the investment is made in the financial market. Equity Mutual Funds with a majority of the amount invested in stock market possess higher risk than the Debt Mutual Funds.
Impact of Inflation
Fixed Deposits remain unaffected from the inflation as the interest rate is pre-decided. While Mutual Fund returns are inflation-adjusted that enhances their capability to generate better returns.
Fixed Deposits are not liquid as the invested amount remains locked for a certain period of time. If the FD is being withdrawn before the maturity, a penalty is charged to the investor. Mutual Funds, on the other hand, possess higher liquidity as the funds can be sold even within a short period of time without much depreciating the fund value.
The interest earned from the FD is taxable depending on the tax slab of the individual whereas the taxation on Mutual Fund depends on the holding period. Both short-term capital gains and long-term capital gains are taxed differently.
Tax Savings – FDs vs. Mutual Funds
Investors preferring FDs for tax saving under section 80C of the Income Tax Act after the completion of 5 year lock-in period would like to consider the Equity Linked Savings Scheme (ELSS) Mutual Funds as an alternative. ELSS has the lowest lock-in period of 3 years and has given better returns historically.
Which is better, FD or Mutual Fund?
The decision to invest between a bank FD and a mutual fund depend on the investor’s risk capacity and the surplus amount he would like to invest. FD usually requires a lump sum amount whereas Mutual Funds investments can be done with as low as Rs. 500 per month. However, it makes a greater sense to invest in Mutual Funds as they offer better returns in the long-term and you can plan them according to the goals that you would like to achieve.