You probably have some idle money in your bank account, which is likely to soon go as a home down-payment. Or may be to pay for an overseas family vacation planned next year.
Why don’t you considerthis short-term money in debt funds instead?
usually in safe and liquid debt instruments. While protecting your capital, they also provide better returns than normally earned from bank or small saving instruments.
There are various types of debt funds available based on yourhorizon and liquidity preferences.
Here are the three categories of debt funds– liquid funds, ultra-short term debt funds and short-term debt funds – that will meet most, if not all, your short-termneeds.
Liquid funds are the safest among the three categories. They in very liquid and high quality such as repo, treasury bills, commercial paper, and non convertible debentures. The NAV doesn’t fluctuate much as are mostly in short-term papers.
Ultra-short term funds take a marginally higher level of risk than a liquid fund. They hold debt papers that are marked-to-market on a daily basis. While the NAV marginally fluctuates in the process, the returns are slightly higher returns than in. It acts as a good ‘parking’ alternative to funds lying idle.
Short-term funds in turnin debt papers across the credit spectrum (different quality ratings) but within the grade. In addition to earning income from the invested debt instruments, the aim is extra returns from and trading opportunities. They take the highest risk among the three categories.
Ultra-short term funds have a slightly longer investment horizon of 3-6 months while it is anywhere from 1-5 years for a short-term bond fund. Longer the duration (or average maturity of its debt papers) of the fund, more is its susceptibility to interest rate fluctuations in the economy.
It is important to choose a debt fund category that matches your NAV.horizon. Liquid funds typically in debt papers with a maturity of three months or less. Currently, only debt papers with a maturity of over 30 days need to be valued on a basis. To the extent a fund is invested in debt papers of less than a month tenure, its income is added smoothly to its
Ultra-short term funds have a slightly longerhorizon of 3-6 months while it is anywhere from 1-5 years for a short-term . Longer the duration (or average maturity of its debt papers) of the fund, more is its susceptibility to interest rate fluctuations in the economy.
Capital-gains tax rates are the same across debt funds. If you sell a fund within three years, short-term tax as per the marginal tax rate is applicable. Selling after three years means long-term tax of 20% (after ) is applicable. Moreover, there is no TDS (unlike bank FD) and tax needs to be paid only after the redemption.In the past, in debt funds had led to lesser tax outgo than from that of bank .
Typically, you can expect debt funds to give one to two percent over the returns of bank deposits, and often inflation. In the last one year, liquid funds and ultra-short term debt funds have given an average return of 6.6% and 6.8% as compared to 4% that banks give on its saving bank account.
Large penalties are applicable for premature withdrawal in case of. In contrast, graded exit loads are applicable for liquid funds – largely to keep corporate money away. It is applicable only on withdrawing within six days of . Debt funds are highly liquid and investors can get credit into their bank account within two working days of putting the redemption request.
Pick and choose debt funds that match yourhorizon. These are best for short term needs of less than 4-5 years. Choose wisely from among reliable and trusted funds, and capital protection should be the least of your worries.