When it comes to investing, there are many options available to grow your savings in a systematic manner. Investors can choose from various financial instruments based on their investment needs and risk appetite. Two popular investment avenues amongst Indian investors are liquid funds and recurring deposits. Liquid funds and recurring deposits are both options to invest money and earn returns. However, they differ in terms of liquidity, returns, taxation, and flexibility. This article explores how liquid funds may offer distinct advantages over recurring deposits.
Understanding liquid funds
Liquid funds belong to the category of debt mutual funds. They invest in short-term market instruments such as treasury bills, commercial papers, and certificates of deposit. This in unlike recurring deposits, which are fixed-term investments with no stock market exposure. This characteristic makes liquid funds more dynamic and responsive to market conditions, increasing the potential for growth.
Comparing liquid funds and recurring deposits
Liquidity advantage
One of the key benefits of liquid funds over recurring deposits is liquidity. While RDs have a fixed tenure and early withdrawals might attract penalties, liquid funds allow you to redeem your investment anytime without incurring significant charges. This make liquid fund a better choice to park your emergency funds and makes it easier to switch to a better investment option, if need be.
Interest rate fluctuations
Recurring deposits come with a fixed interest rate, determined at the time of investment. In contrast, the returns from liquid funds could fluctuate based on market conditions. The market exposure helps the fund capitalise on potential market upswings and could yield higher returns than recurring deposits.
Tax efficiency
The returns from recurring deposits are taxable at your applicable income tax slab rate. On the other hand, liquid funds enjoy more tax efficiency. If held for over three years, liquid funds qualify for long-term capital gains tax, offering indexation benefits that can reduce your tax liability.
Diversification
Liquid funds invest across various short-term debt and money market instruments like treasury bills, commercial paper, certificates of deposit, etc. This diversification across various securities and issuers helps it get more market exposure. More market exposure increases the potential for growth and at the same time, reduces risk. Recurring deposits with banks have no diversification as the money is locked with the same bank for the tenure. There risk is dependent on stability of the bank and the economy.
Flexibility in investment amount
With recurring deposits, you need to commit to investing a fixed amount periodically (monthly, quarterly etc). The deposit amount and frequency cannot be changed during the RD tenure. Liquid funds are more flexible – you can invest any amount at any time. There is no restriction on the periodicity or the amount of investment. You can make lumpsum investments or invest small amounts regularly based on your financial situation. This flexibility makes liquid funds more convenient for systematic investing like an SIP plan.
Conclusion
While recurring deposits have been a reliable choice for many, the financial landscape is evolving, and liquid funds present a compelling alternative. The flexibility, potential for higher returns, tax efficiency etc. make liquid funds attractive for those seeking a more dynamic and responsive investment avenue.
