Recurring Deposits Vs. Debt Funds: Which is the Better of the Two?

Thinking about saving is a pathological flaw millions of Indians are born with. It’s a flaw not so much because they think about saving, but rather because they obsess over saving while not doing much to serve that end. For the purpose of this article, we will pitch two investment avenues—Recurring Deposits and Debt Funds—against each other and list out their usefulness. But, before that we will list out the basic features of RDs and Debt funds:

Key features of a Recurring Deposit and a Debt Fund:

Both recurring deposit and debt fund come with a number of features, which gives you an insight into the way they work as a financial instrument. Here are some of their key features listed out for you.

• Recurring Deposit:
• Recurring deposits are one of the safest form of investments available for the typical, risk-averse investors and have no amount of risk associated with them.
• RDs offer you the option to choose between fixed and flexible deposit schemes which offer slightly varying terms.
• To invest in an RD, individuals need to pay a fixed amount every month for a tenure they have chosen.
• Once you choose a particular deposit scheme, your money will accrue interest to the tune of 8%-9% each year. This means that the returns you get can also be calculated at the time of investing.
• Recurring deposits offer a negligible amount of liquidity and any premature withdrawals of your deposits will invite penalty charges on your part.

• Debt Fund:
• There are certain risks involved in debt funds because they are entirely linked to the market performance of a stock.
• While returns offered on debt funds are usually higher, there’s no guarantee to the amount you receive as in the case of an RD.
• Investing in debt funds for longer periods of time are known to offer considerably higher returns as opposed to short term returns.
• The returns you get hinges on the performance of a debt market and also the type of funds a fund manager decides to invest your money in.
• A debt fund is completely liquid and allows you to withdraw your amount at any given time without needing to pay any form of penalties.
• Investing in a debt fund can be done on a daily, weekly, monthly, or a quarterly basis.

Are there any tax benefits available on RDs and Debt Funds?

Recurring deposits don’t offer any form of tax benefit for the investors and the interest rate is taxed if it draws an income of more than Rs.10,000 a year. On the other hand, the case with debt funds is slightly different. Debt funds have a tax structure of 20% and 10% depending on whether or not an individual has opted to index their funds based on the Cost Price Index rates.

Here’s an elaborate explanation on how this works. If an individual has owned a debt fund for more than a year, the government allows them to index the cost of those funds to the present rates, which is done using the CPI figures released each year. If the person decided to index the funds they will be charged a tax of 20% on the returns and 10% if they choose to stick to the old valuation.

However, in high inflationary situations where the indexed cost of funds are higher than its current market values, something called a notional capital loss occurs. In such cases, no taxes are levied and the losses can be offset to balance any future gains.

Bottom-line, both recurring deposits and debt funds cater to a different demographic and is mostly reliant on an individual’s openness to taking risks. If you are an investor and wouldn’t mind the occasional ebbs and flows of the stock market, debt funds is your way forward. On the other hand, if you’d rather be happy with lower returns and no risk, RD is what you must invest in.

Investors Enticed Away from RD’s By Debt SIP’s

Recurring Deposits (RD), long the mainstay of investors looking for regular investments that pay a fixed return, have been side-lined by debt SIP’s (Systematic Investment Plans).

An SIP is a mutual fund that allows investors to invest small amounts at regular intervals (either weekly, monthly or quarterly). This amount is then invested in a chosen mutual fund, with a specific number of units transferred to the investor based on the fund’s current asset value.

Debt SIP’s have been catching the eye of investors thanks to their cheaper taxes. Falling returns from Recurring Deposit have also contributed to the growth of SIP’s as a more favorable option for frequent small investments. Debt fund investments are made into a combination of debt securities as well as fixed income securities such as corporate bonds, treasury bills etc. they also pay out a specific interest and have a fixed maturity.

Off late, wealth managers have been noticing a trend of investors directing their funds towards mutual funds. Figures also point to this trend, with monthly SIP investments standing at Rs. 1, 300 crore in April 2014 rising to almost Rs. 2, 800 crore a month now.

While the bulk of cash flow in mutual funds continue to be directed toward diversified equity funds and balanced funds, a sizable portion is also being diverted toward debt funds.

According to data, 10% of the total mutual fund investments are diverted towards debt funds and gold funds.

A number of investors who used to invest exclusively in Recurring Deposits have been exploring the market and the associated risks that come with investing in debt funds and mutual funds due to the higher returns and lower taxes that come along with them.

One of the key advantages of a debt fund is there is no tax deduction at source (TDS) on income gains from these investments. Tax on debt fund investments is also deferred until the investor redeems his units, resulting in the investor not having to pay tax every year on the investment, which is the case for other investment options like fixed deposits.

Debt funds generally carry two types of risk- interest rate risk and credit risk. Debt funds invest the money taken from investors in various bonds issued by companies, banks or governments. A credit risk would affect the capital return if the fund invested is a risky one, with the possibility of the fund being unable to get the principal or interest back.

An interest rate risk would be dependent on how a change in interest rate affects the bond price, with long duration bonds susceptible to higher risks. However with closed-end funds, the maturity period of the fund coincides with the investment time period, reducing or negating the risk.

This risk being neutralized is the reason many conservative investors have begun to invest in debt funds on a larger scale compared to the safer but lower returns Recurring Deposits.

Taking Your First Step Towards Investments

Gone are the days when we could lead a happy and fulfilling life by working hard in our youth, with our retirement planned and secured by our savings. We live in a world where inflation is a harsh truth, with the price of everything going up with time. Look around you and you can see first-hand examples of that, your first cricket bat might’ve cost you Rs 700-800, but now the same bat will probably be worth double the amount you paid for it, or the shoes you picked up for Rs 500 5 years ago will probably cost Rs 1,500 now. With prices shooting up, living in the past isn’t going to help, and neither will our meagre salary be enough to prepare us for the future.

So a peek into the future is probably bound to alarm us, making us wonder if the money we earn today will be worth anything at all tomorrow. Now, while most of us wonder, the smarter ones will try and find a way to ensure that the value of their money increases over time and not decreases. Today, one can invest in multiple options, ensuring that our tomorrow isn’t filled with darkness, but a lot of us are probably clueless as to how to go about it, thinking that it might be a bit too late for them to start now. For those who haven’t started investing yet, the phrase “Better late than never” is perhaps the only statement they need to look at.

Listed below are a few simple steps that can help you get started towards a bright and fruitful future.

• Stop procrastinating – When it comes to procrastination, most of us are experts at it, having learnt ways to postpone and push certain thoughts and actions. While procrastination might not have hurt you till now, deciding to procrastinate further might have a negative impact on your future. The first step towards investing is to stop procrastination, with no goal achievable until we set the dice rolling.
• Set simple goals – The starting is always the hardest point of any journey, with investment being no different. It is possible for one to get carried away, setting unrealistic and often unachievable goals. One needs to set simple and realistic goals, which can offer decent returns without jeopardizing an investment. These goals needs to be calculated based on your current level of income and some basic expectations for the future.
• Do your homework – Once the goals are set one should do some homework, figuring out which tools can help you reach the destination. Certain investments offer high yields, but also have certain risks attached with them, and a beginner should stay clear of them, unless they learn everything about them. It is easier for a new investor to start small and invest in safe instruments before gradually climbing the ladder to riskier ones. With multiple options in the market, research is critical and every investor should make it a point to get the necessary information first hand.
• Get expert help – We might all think of ourselves as all-rounders, but the truth is that most of us have limited knowledge about things which are not in our realm. Consulting experts might cost us a bit but expert opinion can help plan accurately, helping you save more over time.
• Invest – Once you are convinced about your future prospects, there is just one thing left to do, invest – both your money and trust into it. It is possible for us to forget about our investment after we pay for it, but the only way to ensure that your investment grows to its potential is to follow up. Regular checks can help you keep a tab and chart further investments accordingly. While we are all eager to see our money grow, we must realize that good things don’t happen overnight. An investment takes time to mature and patience during this phase is critical.

We put a lot of effort and time to do multiple things every day, like the time you took to read this piece. A similar investment attitude could soon help you reap the benefits of starting your journey.
Read more about different types of Investment options

Financial Planning for your Dream Home

It is when you finally decide to buy a house of your own, you understand the true meaning of ‘home sweet home’. The feeling of owning a house is beyond compare but it requires a great amount of meticulous planning. Even the tiniest financial decisions have an impact on the purchase. Most of the times, owing to rapidly surging property prices, buying a house requires taking a housing loan. Once the property’s location is zeroed in on, you must finalize the budget comprising of the property’s price, registration fees, stamp duty and other components.

How much loan to take?

Usually 85% of the property’s price is provided as loan by most banks, however it is imperative you consider the EMI amount before finalizing a loan. Sometimes it become difficult to make a higher down-payment, so you can decide to opt for a higher loan component. You may assume that the higher EMI would not hurt with time and expected salary hikes but in case things do not work as planned, you should be prepared. It is easier to calculate the amount of housing loan to take based on the corpus of savings you have accumulated from your investments.

How to arrange the down-payment?

Arranging the down-payment becomes very crucial in the process of taking a housing loan.

• You need to make a comprehensive list of your financial investments and resources. Most people consider breaking their liquid assets such as savings account, gold, fixed deposits and recurring deposits for making the down-payment. Recurring deposit is the safest and the steadiest way to keep the inflow constant.
• You must be careful that you do not drain out your funds at one go and keep your contingency fund aside for at least a minimum of 6 months.
• Reducing your expenses and keeping a steady flow of corpus is important to maintain the balance in your financial life. It may require some lifestyle changes and adjustments.
• When the term of the down-payment is below 3 years, best investments are ultra-short term funds, recurring deposits or liquid funds. Investing in equity funds is not a good idea as the real returns are after 2-3 years and you may not gain anything substantial for the down-payment of your housing loan.

What are your other options?

You can also arrange the down-payment from your family members if there is a dire necessity. In this case, you will have two benefits, you will not have to pay an interest on the loan and you will get an extension to pay off your housing loan. However, consider this as the last option and only if you are comfortable and close with the person you are taking loan from.

What must you always remember?

You must always be prepared for a medical emergency. Taking a housing loan can prove burdensome for some of you and you may end up depleting all your resources. It is very important to have an adequate health cover at all points of time, as you may have your dream mansion ready but if you aren’t healthy enough to enjoy the stay, there is no point.