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Should senior citizens invest in FDs or debt funds?

Recently, an investor asked us this question: My mother invests in FDs but is wondering if she should switch to debt funds instead? What do you think would be the best choice?

Recently, an investor asked us this question:

My mother invests in FDs but is wondering if she should switch to debt funds instead? What do you think would be the best choice?

Our answer

She should consider investing in liquid funds primarily, depending on her goals, but can also consider keeping some money (up to a limit) in FDs. There are benefits to this approach of investing in both as we explain below. The first thing to understand is the return expectation one should have and the second is the tax implication.

Fixed Deposits

For senior citizens, returns on FDs being offered are anywhere between 7%-9%. Accounting for taxes, this come to about 6.5% post tax. Based on current trends, one should not expect anything more than this going ahead. 

If you choose a good quality public sector or private bank, there is almost no credit risk or interest rate risk. This makes them ideal for at least part of a corpus especially if total interest amount earned is up to Rs 3 Lakh (for those who are 60 but younger than 80) and Rs 5 Lakh for those who are 80 or older.

According to the latest tax slabs, income up to Rs 3 lakh doesn’t attract taxes for those older than 60 but younger than 80. The number goes up to Rs 5 Lakh for those 80 or older. The only caveat is that they will have to submit Form 15H as Fixed Deposits attract 10% TDS on interest earned over Rs 10,000 a year. Form 15H ensures that TDS is not deducted on their interest income if they fall below the tax limit. This form filling and submission can be a pain point. 

Liquid Funds

Now let’s consider liquid funds, which are among the most stable kind of mutual funds especially with the new set of norms issued by SEBI, regarding them. The returns on these are about 6%-7% as of this year. While there is some credit and interest rate risk involved in the case of these funds, the latest SEBI norms minimise credit risk at least to a great extent.

The same tax slab related factors play out here as well except for the fact that Liquid funds don’t attract TDS. For those in a higher tax slab, liquid funds would make more sense due to the fact that you will pay tax only on the gains you withdraw. 

The decision to shift to debt funds must be taken in line with the goals a person has. From a tax perspective, for senior citizens who earn Rs 3 lakhs or less (5 lakhs for those 80 or older) in interest, they can consider staying in fixed deposits so long as they are comfortable submitting Form 15H every year. 

What about other kinds of debt funds?

There are some long-term debt funds like gilt funds which have done quite well recently due to a drop in the yield on 10-year government bonds. This, however, is a short-lived phenomenon and yields are likely to go up based on data as of September 2019. One shouldn’t stake their entire corpus based on this.

Takeaway

The decision to shift to debt funds must be taken in line with the goals a person has. From a tax perspective, for senior citizens who earn Rs 3 lakhs or less (5 lakhs for those 80 or older) in interest, they can consider staying in fixed deposits of good financially sound banks so long as they are comfortable submitting Form 15H every year. 

For those earning more, moving to liquid funds would make more sense due to gains being taxed when withdrawn and to the extent withdrawn. The important thing is to have a rational return expectation no matter what you choose. That expectation as we understand it should be around 6% going forward.

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