7 top fixed income investment options compared: Find out which suits you now
Falling interest rates and new tax rules have changed the fixed income landscape. Besides fixed deposits, other debt options have also given muted returns. The time horizon for when you need the money will define which instrument is suitable for you.
For those focused too much on minimising tax, arbitrage funds can be a good option.
You just sold some property and have a large amount in your bank. Or you booked profits in stocks and are sitting on cash. Or maybe you want to save for an important financial goal that’s round the corner. Whatever the situation, you are looking for a safe investment avenue that gives assured returns.
Falling interest rates and changes in tax rules have altered the fixed income landscape in the past 2-3 years. The five-year fixed deposit rate of SBI has dropped from 6.85% in late 2018 to 5.40% now. But interest from fixed deposits is fully taxable, and post-tax return in the 30% tax bracket is a niggardly 3.7% that lags consumer inflation in urban areas by more than 130 basis points.
Other debt options have also given muted returns. Except for credit risk funds, all categories of debt mutual funds have delivered 4-6% returns in the past one year. “Fixed income investors need to revise their returns expectations. They should not expect the returns that debt investments gave 2-3 years ago,” says Raghvendra Nath, Managing Director of Ladderup Wealth Management.
How tax impacts returns This week’s cover story looks at the various fixed income options investors and examines their utility for investors. “The investment choice will depend entirely on how soon you need the money,” says financial planner Pankaaj Maalde. We have made four broad categories of financial goals based on the investment horizon.
Very short term: 3-6 mths If you hold a large amount of cash (sale proceeds of property or a matured investment) and need to redeploy it in 3-6 months, keep the money in a fixed deposit or a liquid fund. The returns will not be very high, but that should not be a concern. When the investment horizon is so short, the focus should be on capital protection and liquidity and not on returns. Even if the return is higher by 1-2 percentage points, it will not make a big impact in 3-6 months.
In fact, if your bank offers a higher rate on the savings account balance, you can even consider keeping the money in your bank account. Some banks, including Kotak Mahindra Bank, IndusInd Bank, Bandhan Bank, Lakshmi Vilas Bank and RBL Bank offer up to 6-6.5% interest on the savings bank account balance if the amount exceeds a certain threshold. Under Sec 80TTA, up to Rs 10,000 interest on the savings bank balance is tax free. This will bring down the overall tax on the interest earned by your bank balance.
The other option could be liquid funds and ultra short duration debt funds. Government bond yields have risen in recent months, and could go up further if inflation rises. But these funds will not be affected because they hold very short term instruments.
For those focused too much on minimising tax, arbitrage funds can be a good option. The category has given 4.18% returns in the past one year, which is comparable with the returns generated by debt fund categories. But these arbitrage funds are treated as equity funds for tax purposes, which means the short-term gains will be taxed at 15%.
When do you need the money? The time horizon will define which instrument is suitable for you. Short term: 1-2 years The investment options will not change too much if your investment horizon is slightly longer at 1-2 years. You can also consider corporate fixed deposits, where interest rates are slightly higher than what banks offer. But keep in mind that corporate deposits are not as safe as bank deposits. You need to be careful even when investing in bank deposits. “Limit the exposure to Rs 5 lakh per bank so that your investments are covered under the deposit insurance scheme,” advises Mrin Agarwal, Founder Director of Finsafe India.
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It would also be a good idea to invest in short-term debt funds. The benchmark 10-year government bond yield, which hovered around 6% for most of this year, has already moved up to 6.34% and is expected to rise further. “Don’t venture into medium term and long-term bond funds at this juncture,” says Maalde. However, funds holding short-term bonds will not be impacted. Arbitrage funds can prove very useful if the holding period is one year or more. Since these schemes are treated as equity funds by the taxman, gains of up to Rs 1 lakh will be tax free.
4 smart money moves for FD investors to counter low interest rates, boost returns
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Interest rates on fixed deposits (FDs) have been at multi-year lows, with banks and NBFCs having slashed rates over the last two years. However, with the central bank now balancing the scales between economic growth and inflation, things could change, sooner or later. Whenever the interest rate cycle makes a U-turn from the bottom, typically the short to medium term interest rates rise first. Long-term interest rates take longer to go up. In such a scenario, some smart moves can help FD investors make the best of the situation. Here are 5 ways investors can enhance returns on their FDs.
Interest rates on fixed deposits (FDs) have been at multi-year lows, with banks and NBFCs having slashed rates over the last two years. However, with the central bank now balancing the scales between..
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If you are planning to book an FD now or are looking to renew your existing FD, then it will be better to go for shorter term deposit, say one year or lower, so that your deposit is not locked at a lower rate for too long. Whenever the short to mid-term rates rise, you can start increasing the tenure of the FD accordingly.
If you are planning to book an FD now or are looking to renew your existing FD, then it will be better to go for shorter term deposit, say one year or lower, so that your deposit is not locked at a l..
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If your deposit is up for renewal in a scenario when the interest rate cycle is close to its lowest point, you could be deep in financial stress. However, you can avoid this by creating an FD ladder. To do this, just divide one big FD into smaller FDs, and book these for distinct tenures. You can do this in a way such that one FD matures each year.
For instance, if you have a Rs 5 lakh FD, you can divide it into 5 parts and book 5 FDs of different tenures of 1 year, 2 years, 3 years, 4 years and 5 years. After one year, when the one-year tenure FD matures renew it for 5 years. After two years your FD with 2-year tenure will mature so you can renew it again for next 5 years. Now repeat this exercise each year and your ladder will be ready. This will ensure that not all of your deposits are locked at the lowest interest rate at the same time and your average return is on the higher side.
If your deposit is up for renewal in a scenario when the interest rate cycle is close to its lowest point, you could be deep in financial stress. However, you can avoid this by creating an FD ladder...
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Many banks and non-banking financial companies have started offering floating rate fixed deposits. The interest rate on such a deposit is linked to a benchmark and the interest rate moves in tandem with the movement in the benchmark rate. These are a good idea if you want to avoid taking any chances against the fluctuating interest rate cycle and want to invest for the long-term.
Many banks and non-banking financial companies have started offering floating rate fixed deposits. The interest rate on such a deposit is linked to a benchmark and the interest rate moves in tandem w..
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Indian Overseas Bank, for example, offers the floating rate FDs for 3-10 year tenures. It has kept the daily average of last six months of 5-year G-Sec rate and 10-year G-sec rate as benchmarks for 3-5 years and 5-10 years tenures, respectively. The 10-year G-sec yield on September 24, 2021, as per the data given by RBI, was 6.21%, which is much better than the FD rates of most large banks. If you are not a senior citizen, then the best interest rate that you can get from a big bank will be around 5.25-5.5%. For instance, SBI is offering an interest rate of 5.40% on FD with tenure above 5 years to 10 years.
So, the floating rate option appears to be giving better interest rate of 6.21% (if the 6 months average is also the same) even in the current scenario. Once the overall interest rate scenario changes and rates start moving up, then depositors will get the real benefit of a floating rate FD as the interest rate on these FDs will also go up.
Indian Overseas Bank, for example, offers the floating rate FDs for 3-10 year tenures. It has kept the daily average of last six months of 5-year G-Sec rate and 10-year G-sec rate as benchmarks for 3..
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If you are a senior citizen and are looking for an option that gives you a regular income, then you should go for RBI Floating Rate Bonds. This bond is currently giving a return of 7.15% which higher than bank FDs. It has a tenure of 7 years and pays interest semi-annually. Though senior citizens have better options like SCSS and PMVVY, however, they cannot invest more than Rs 15 lakh each in these two options. So the RBI Floating Rate Bond is a good option for those senior citizens who have exhausted the investment limit in the SCSS and PMVVY.
If you are a senior citizen and are looking for an option that gives you a regular income, then you should go for RBI Floating Rate Bonds. This bond is currently giving a return of 7.15% which higher..
Medium term: 3-5 years Your options widen if you can remain invested for more than three years. For one, if the holding period is three years or more, gains from debt funds are treated as long-term capital gains. They are not taxed at the slab rate but at 20% after indexation. Indexation takes into account the consumer inflation during the holding period and accordingly raises the purchase price of the asset to adjust for inflation. So if you bought an asset for Rs 10,000 three years ago and the cost inflation index has risen 10% since then, the asset will be deemed to have been purchased for Rs 11,000. “High inflation is here to stay for sometime, which means indexation can bring down the effective tax significantly,” says Sandeep Bhalla, a Mumbai-based financial consultant and former banker.
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If you are willing to wait for five years, you can also consider Post Office schemes such as National Savings Certificates, Kisan Vikas Patras and the Monthly Income Scheme. These small savings schemes offer higher interest than bank deposits while the sovereign guarantee makes them completely safe. The problem is they are not very flexible. NSCs cannot be foreclosed, though Kisan Vikas Patras can be sold after 30 months. Senior citizens (above 60 years) can consider the Senior Citizens’ Saving Scheme, which offers 7.4% returns and pays the interest every quarter.
Long term: Over 6-7 years Till last year, the Employees’ Provident Fund was the best long-term investment in debt. Employees covered by the scheme could put away a big chunk of their pay to earn 8.5% tax free returns. But this year’s budget has changed the rules and taken some of the sheen off the Provident Fund. Now, the interest earned on an employee’s contribution above Rs 2.5 lakh will be taxed. Even so, experts say that the PF remains the best long-term option and one should definitely exhaust the Rs 2.5 lakh limit for tax free contributions to the scheme. The PPF is another tax-free option worth considering. At 7.1%, it is far better than other small savings schemes and bank deposits. But it has an annual investment limit of Rs 1.5 lakh. If you have already exhausted that limit, you can consider the RBI Floating Rate Savings Bonds which are offering 7.15% right now. These bonds have a maturity of seven years and the interest rate is 35 basis points above the rate offered on the National Savings Certificates.
If you want to save for your daughter, go for the Sukanya scheme which offers 7.6% tax free interest. But it is open only to girls below 10.
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