Earn higher returns with liquid funds

At a time when fixed deposit rates are falling, liquid funds offered by mutual funds could be the best bet for the risk-averse investors to consider for fairly decent returns.

Fixed deposit interest rates are falling. Over the last three-odd years, the Reserve Bank of India has reduced the repo rate seven times. As a resultant, the interest returns on fixed deposits have been lowered by banks. This impacts risk-averse investors looking to keep their money safe in a bank while earning a moderate rate of return. Bank FD returns were in the range of 8  to 8.5 per cent three years ago. Now, they've come down to 6 to 7 per cent. If you are in the 30 per cent tax slab, a 6.5 per cent FD actually gives you post-tax returns of 4.55 per cent.

If you like the safety and liquidity that bank fixed deposits provide, you must be looking for an alternative today. How can you continue earning moderate returns without putting your money in an instrument that does not have a lock-in period? Enter liquid funds, which meet all of the above criteria. Let’s take a deeper look at the advantages of liquid funds, and how you can avail them.

How to buy

You can use mutual fund comparison websites to finalise the liquid fund you want to choose. Then, you can buy the fund online or offline. Online, you can register with the AMC website and making the purchase digitally through your card or netbanking. This takes just a few minutes. Offline, you can walk into a branch office with the KYC documents and cheque book. You can also buy mutual funds through distributors, aggregators, agents etc.

When you buy liquid mutual funds, your money is invested in low-risk and short-term debt securities. Every mutual fund has a fund manager who decides where your money will be invested. 

In case of liquid funds, the portfolio typically consists of certificates of deposit, CBLO, fixed deposits, and government treasury bills whose tenures are up to 91 days. You can enter and exit liquid funds easily just as you do with a bank fixed deposit. There is a very little risk, and you earn returns similar to fixed deposits.

Who sells them?
Just as any other variant of mutual funds, liquid funds are sold by asset management companies (AMCs). Most AMCs have a liquid fund scheme that investors can avail at any point. If you are interested specifically in a liquid fund, do make sure you can differentiate it from short-term debt funds.

How is this better than FDS?
Interest income is combined with your income and taxed as per your slab. However, mutual fund investments are taxed only when you redeem them. There is no TDS. When you actually redeem your liquid fund units, you will be taxed for capital gains. Units held for under three years are liable for short-term capital gains tax as per your slab. Units held longer than three years are liable for Long Term Capital Gains tax at 20.6 per cent with indexation benefit. This makes liquid mutual fund investing more tax-efficient than FDs.

Returns
As per the Crisil AMFI Liquid Fund Performance Index for June 2017, the liquid fund category as a whole has provided a CAGR of 6.83 per cent in the preceding one year, 7.88 per cent in the preceding three years, 8.37 per cent in five, and 7.76 per cent in ten. These are marginally higher returns than fixed dep-osits. However, do note that every mutual fund — even a liquid fund — has an expense ratio which is deducted from the NAV during redemption. You can buy a direct mutual fund (straight from the AMC) to enjoy a lower expense ratio, and therefore marginally higher returns.

Other Benefits
Most mutual funds have exit loads — you are charged for premature redemption. But liquid funds don’t. You can exit your liquid fund investment at any point, and the cash is deposited to your linked account usually in one business day. In this sense, you are not penalised for redemption. Even with a fixed deposit, you may lose one per cent of your returns for premature redemption.

(The writer is CEO of BankBazaar.com)