When choosing between mutual funds and fixed deposits in India, investors often wonder which is the better investment option. FDs are the safest investment due to the guaranteed interest and principal upon maturity. The Reserve Bank of India regulates banks by implementing prudent lending standards to ensure that depositors’ money is secure. On the other hand, mutual funds have a long history in India since getting set up by the Unit Trust of India in 1963. Despite that, the popularity of mutual funds among retail investors has grown only in the last 20 – 25 years. While fixed deposits have traditionally been favoured due to their perceived safety and low risk, mutual funds have become more popular as investors seek better returns and diversified portfolios.

What is FD?

In India, banks, post offices, and a few deposit-taking non-banking financial companies (NBFCs-D) offer customers fixed deposits as an investment option. Banks and financial institutions offer competitive interest rates for these deposits, and the deposit term can range from as little as 7 days to as long as a decade. FDs have transformed over time into a flexible and adaptable financial product that provides a range of advantages to investors.

Also Read: Experience financial growth with unmatched Bajaj Finance FD Rates

What is a Mutual Fund?

A mutual fund is an investment product provided by fund houses. It combines top-performing stocks and bonds from various sectors into a single portfolio. The fund manager determines the balance of equity and debt exposure depending on the fund category. This creates a diversified portfolio across equity and debt in different industrial sectors that offer a reasonable return, higher than that provided in FD, with risk lower than that of the stock market. The fund manager charges a fee, called an expense ratio, for creating and managing the portfolio, i.e. to buy, sell, or hold various securities.

Difference between Mutual Funds and FD

Why should you choose FDs?

• FDs may be a good fit for risk-averse investors who prefer low-risk investments with guaranteed returns. It is also preferred by investors who do not wish to track their investment’s performance regularly.
• Senior citizens seeking secure investment options with higher returns may be interested in FDs, as many banks offer favourable interest rates for this demographic.
• FDs offer a range of tenures catering to shorter investment horizons. So it can be suitable for fulfilling your short-term financial goals.
• Taxpayers looking to reduce their income tax liability can consider tax-saving FDs, which are eligible for deductions up to Rs.1.5 lakh under Section 80C of the Income Tax Act.

Fixed deposits (FDs) have been popular among Indian investors for decades. So people choose it without hesitation. However, recent violations of RBI norms have occurred, leaving depositors in difficult situations. Depending on the situation, such incidents can lead to withdrawal suspension, withdrawal limits, or an inability to withdraw funds indefinitely. Despite a few of these unpleasant occurrences, FDs remain generally safe and offer guaranteed returns.

Why should you choose mutual funds?

• Mutual funds can be a better option if you are comparatively more risk-tolerant. It offers better returns and more favourable taxation. With mutual funds, tax is only paid when selling or redeeming units at a profit, unlike FDs, which are taxed while the interest accumulates. Additionally, mutual funds can help beat inflation.
• Mutual funds can provide a good option for those seeking higher returns than what bank deposits offer. However, it’s important to have a sufficient investment horizon and be willing to accept some fluctuation in value.
• Mutual funds can be a useful choice to diversify your investment portfolio because they invest in a range of stocks, bonds, and other assets.
• If you want to invest long-term, you may find mutual funds attractive, as they can offer better returns than bank deposits over time.
• By investing up to Rs 1.5 lakh per year in an equity-linked savings scheme (ELSS), a type of tax-saving mutual fund, you can build wealth and enjoy tax benefits simultaneously.

For example, let’s say your taxable income for the year is Rs. 10 lakhs, and you decide to invest Rs. 1.5 lakhs in ELSS. In this case, your taxable income will be reduced to Rs. 8.5 lakhs (Rs. 10 lakhs – Rs. 1.5 lakhs), and you will be taxed accordingly based on the lower amount. Assuming you fall under the 20% tax bracket, you can save Rs. 30,000 in taxes (20% of Rs. 1.5 lakhs).

Additionally, ELSS has the potential to offer higher returns compared to other tax-saving investment options such as Public Provident Fund (PPF) or National Savings Certificate (NSC). While there is no guarantee of returns, ELSS has historically performed well in the long run due to its equity-based investment strategy.

Another advantage of ELSS is its relatively short lock-in period of 3 years. It inculcates a saving habit, but at the same time, it is more liquid than instruments like PPF and NSC.

The inherent volatility of mutual funds is a deterrent for some investors, but it’s normal for market-linked investments. However, not all mutual funds are equally volatile, as the risk-return profile varies from one instrument to another. Starting with less risky mutual funds and gradually transitioning to riskier ones can help investors adjust to the volatility. Learning to tolerate volatility is key to investing in mutual funds.

Final Thoughts

Determining which option is best for an individual depends on their income, monthly expenses, and financial goals. Before deciding where and how to invest, it is important to clearly understand your goals and the features of both investment instruments. 

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