Why Mutual Funds Better Than Fixed Deposit?

A mutual fund is a company that brings together money from many people and invests it in stocks, bonds or other assets. The combined holdings of stocks, bonds or other assets the fund owns are known as its portfolio. Each investor in the fund owns shares, which represent a part of these holdings.

A fixed deposit or an FD is an investment instrument that banks and non-banking financial companies (NBFC) offer their customers. Through an FD, people invest a certain sum of money for a fixed period at a predetermined rate of interest in an FD.

Difference Between Fixed Deposit And Mutual Fund

When you want to choose between mutual funds and fixed deposits, you need to bear in mind certain factors that will help you compare mutual funds and fixed deposits that will eventually help you make an informed decision. These factors include the risk involved, expected returns, tax benefits, entry or exit load, lock-in periods and withdrawals.

1. Risk

Fixed deposits are mostly risk-free, while mutual funds are subject to market risks. Fixed deposits earn you interest over a specific time, and the amount you will earn is guaranteed because it is determined by the rate of interest offered by the bank. Mutual funds, on the other hand, can fluctuate due to market conditions. Additionally, the type of mutual fund also determines the risk - equity mutual funds are high risk, while debt funds are low risk.

2. Expected Returns

Returns on a fixed deposit are determined by their rate of interest and time period. If you choose to keep a fixed deposit for a longer time, you can gain a higher amount of returns. Some banks even increase the rate of interest as the number of years is increased. This concept also applies to mutual funds. Financial advisors generally advise investors to stay invested in a mutual fund for more extended periods for higher returns. That being said, the returns on a mutual fund are entirely dependent on the performance of the stock market.

3. Returns On Investment

A Fixed Deposit offers pre-decided returns which do not change throughout the tenure of investments whereas offer better returns on long-term investments as they are market-linked. Longer the tenure of investment, better the returns from Mutual Funds. Pre-determined returns are offered in a Fixed Deposit. The returns in an FD remain unchanged throughout the tenure of the investment. Due to their market linked nature, mutual funds offer higher returns on long-term investment. If the investment tenure is longer, the returns are higher in mutual funds.

4. Withdrawal

As its name suggests, a fixed deposit is maintained for a specified period. An investor can break the deposit if and when they wish to, but they will be required to pay the penalty if broken before the specified time. Mutual funds investments can be withdrawn at any time unless there is a specified lock-in period viz. Equity Linked Savings Scheme.

5. Entry Or Exit Load

Fixed deposits do not charge the investor for starting a fixed deposit, nor do they charge the investor once the fixed deposit matures. But if the fixed deposit is broken prematurely, there will be a penalty involved. Mutual funds, depending on the type of fund, can charge the investor an entry as well as an exit fee.

6. Tax Benefits

A TDS of 10% is charged on the returns gained from a fixed deposit if the returns are above Rs. 10,000 in a financial year. All mutual funds are subject to short-term capital gains tax at 10% and long-term capital gains tax at 15% for earnings above Rs. 1 lakh in a financial year. In the case of debt funds, long-term capital gains are taxed 20% post indexation.

7. After Taxation Returns

In terms of after-tax returns, mutual funds provide better returns. Interest earned on FD is added to your income and then subsequently taxed. For instance, the taxation is the same if you sell your debt funds before 3 years. Returns are added to your income and taxed in accordance with your tax slab. 

8. Lock-in Period

Fixed deposits lock your investment for the specified period chosen by the investor. The minimum lock-in period for a fixed deposit is generally one year. Mutual funds might have a lock-in period depending on the type of fund; this can usually range from three to five years.

Endnotes

Whether you want to choose FD or Mutual Funds, depends on the risk-taking capability of a person and the amount he wants to invest. FDs require a large one-time amount while investments in mutual funds can be started with 500 Rs. Investing in mutual funds can be a better option if you’re looking for better returns in the long-term. Likewise, you can make your financial goals.

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Disclaimer: This article is issued in the general public interest and meant for general information purposes only. Readers are advised not to rely on the contents of the article as conclusive in nature and should research further or consult an expert in this regard.