When it comes to building your financial future, selecting the right investment option is crucial. Mutual funds and fixed deposits (FDs) are two popular options, but they cater to very different needs. While mutual funds focus on wealth creation through market-linked investments, fixed deposits offer stability and guaranteed returns. This blog dives into their features to help you decide which one suits your goals better.
What are mutual funds?
Mutual funds pool money from investors and channel it into different types of investments like stocks, bonds, or a mix of both. Managed by professional fund managers, they offer tailored options for various financial goals, from aggressive growth through equity funds to steady income with debt funds.
What are fixed deposits?
A fixed deposit is a savings tool offered by banks and financial institutions wherein you deposit a specific sum of money for a set tenure and earn interest at a predetermined rate. It is a secure and predictable way to grow your savings, often chosen for its guaranteed returns and low risk.
Comparing key aspects
- Returns
- Mutual funds: Returns from mutual funds depend on the performance of the assets in the portfolio. Equity-based mutual fund schemes, for instance, have the potential to deliver higher returns in the long term, but they carry market risks.
- Fixed deposits: FDs offer a fixed interest rate, ensuring predictable returns over the selected tenure. While they provide financial stability, the returns may not always match the inflation rate, especially during the periods of declining interest rates.
- Risk profile
- Mutual funds: The risk level varies across fund types when you invest in mutual funds. Equity mutual funds come with higher risks due to market fluctuations, while debt or hybrid funds are more stable.
- Fixed deposits: FDs are one of the safest investment options since they guarantee both the principal and the promised interest. With virtually no exposure to market fluctuations, FDs are suitable for individuals who prioritise financial security over higher returns.
- Liquidity
- Mutual funds: Open-ended mutual funds provide flexibility to redeem your investments when needed. However, certain mutual fund schemes, like ELSS, come with a mandatory lock-in period.
- Fixed deposits: While FDs allow premature withdrawals, it typically incurs a penalty and reduced interest, making them less liquid than mutual funds.
- Tax treatment
- Mutual funds: Tax rules depend on the type of mutual fund. Long-term gains on equity funds (over Rs. 1.25 lakh) are taxed at 12.5%, while short-term gains are taxed at 20%. Debt funds follow different tax rules, with the tax rate determined by your income tax slab.
- Fixed deposits: The interest on FDs is fully taxable based on your income tax slab. Additionally, Tax Deducted at Source (TDS) applies if annual interest exceeds Rs. 40,000 (Rs. 50,000 for senior citizens.)
Conclusion: Mutual fund vs fixed deposit
Choosing between FD vs MF boils down to your financial priorities. If you seek higher returns and are willing to embrace some market risk, investing in mutual fund schemes can help grow your wealth. On the other hand, if safety and stability are more important, FDs are the safer bet.
Both mutual funds and fixed deposits have their own strengths, and the right choice depends on your risk tolerance, investment horizon, and financial objectives. A balanced portfolio that includes both options might be the most effective way to achieve financial security while also growing wealth over time.