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Liquid Funds Vs Fixed Deposits: Which is a Better Option?

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Ritika started earning a few months ago, and the day she received his first paycheck, she was certain about investing for her major long-term goals: buying a house for her retired parents and taking a dream holiday to Europe. While working towards these goals, a few months later, Ritika realized that the unpredictability of life made it essential to build an emergency fund. She began exploring low-risk options where she could park his surplus funds and access them easily in case of an emergency.

Her parents recommended investing in fixed deposits (FDs), while friends suggested liquid funds as a more suitable option for short-term goals and easy withdrawals. This comparison between liquid funds and fixed deposits left Ritika wondering which path to choose.

If you're also evaluating liquid funds vs fixed deposits, you're in the right place. Read on as we dive into both options and explore the difference between FD and liquid fund, helping you make an informed choice for your financial planning.

Fixed Deposits and Liquid Funds: Understanding the Difference

To find a better and safer option between FDs and liquid funds, it is first important to understand their meaning and their features. Read on.

What Are Liquid Funds?

Simply put, liquid funds are a kind of mutual funds. Here are some of their key features:

  • In these debt funds, the investment is done in money market instruments, where there is an assurance of interest, typically through debt or fixed-income instruments

  • Liquid funds come with a time frame of 91 days to 3 months

  • Through this capital preservation, liquid funds offer safety 

  • They are considered to be safer than most other mutual funds

  • Your fund manager invests the capital in fixed-income securities that come with high credit ratings. Thus, there is normally neither high gains nor losses

  • A few examples include commercial areas, government and corporate bonds and also treasury bills.   

  • Just like mutual funds, the returns from liquid funds are taxable. 

Who Should Choose Liquid Funds? 

Liquid funds are considered to be a safe option, so if you are an investor looking for a place to park your surplus or may be idle cash, then you can surely consider liquid funds. The rate of interest offered by liquid fund is typically higher thab regular saving banks. So, if you have recently received a bonus or an incentive and want to put it away as an emergency fund, or an upcoming expenses, then liquid funds can be the right choice for you. 

What are Fixed Deposits?  

For most Indians, FDs are one of the most loved way to invest. They are safe, offer flexibility in terms of the tenure and provide an assured return. Considered to be an ideal way to park extra cash, FDs are an easy to understand financial instrument, and that’s a major reason of its popularity. Some of the main features include:

  • You open an FD account and deposit a lumpsum amount for a fixed period of time, at a fixed interest rate.

  • This tenure can range from 7 days to 10 years

  • At the end of the tenure, you will receive the principal along with the acquired interest

  • Almost all banks and NBFC offer FD accounts

  • The FD rates, generally between 5% to 7%, keep changing as they are determined by the repo rate, inflation etc

  • The rate of interest on an FD varies as per the tenure and the company

  • The interest earned on an FD is taxable. The TDS can range between 10% and 20%

  • Breaking the account in the middle of the term comes with a certain charge.

Which Should You Choose Fixed Deposits? 

For most traditional or risk-averse investors, an FD is an ideal option. If you are someone who wants to set aside some money and earn some returns on it then you can choose an FD. Your returns will be fixed and you will not have any worry of market fluctuations affecting your investment. FDs are also a good option for an investor who is aggressively invested in other financial instruments. FDs can bring stability to your portfolio. Some FDs also work as a collateral in case you are looking for a loan. 

Comparison of Liquid Funds and Fixed Deposits

The table below will help you in an easy FD vs liquid fund analysis.  Take a look:

Details

Liquid Funds 

Fixed Deposits

Returns

Typically higher than FDs

Lower returns

Ideal for 

Short as well as long term investors

Long term investors

Investment Risk 

Medium risk as returns are market linked

Low risk, no market investments made

Taxability 

Taxed as per your income slab.
When held for over 3 years: Taxed as LTCG @ 20% (after indexation)

TDS is applicable when interest earned goes beyond a certain limit

Tenure 

7 days to 91 days

7 days to 10 years

Conclusion 

Here’s hoping that this discussion about liquid funds vs fixed deposit would have brought you some clarity. Both these financial products are considered to be a safe and low-risk option in the investment ecosystem. However, when it comes choosing one between them, it boils down to your needs and expectations as an investor. If you are someone who is okay with low to medium risk, then trying liquid funds can be a more recommended approach. However, if you are not at all interested in earning returns, but are looking for a secure way to park some surplus cash, then FDs are the right way forward.

Disclaimer: Investments in the securities market are subject to market risk, read all related documents carefully before investing. This content is for educational purposes only. Securities quoted are exemplary and not recommendatory.

For All Disclaimers Click Here: https://bit.ly/3Tcsfuc

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Frequently Asked Questions

What are liquid funds and how do they work?

Answer Field

Liquid funds, also known as money market funds, invest in debt instruments like commercial paper and bonds. With a maturity of 91 days to 3 months, they suit short-term goals for idle cash.

What are fixed deposits and how do they work?

Answer Field

Fixed deposits offer fixed returns on a lumpsum deposit. Here the tenures range from 7 days to 10 years. Long-term investments yield higher returns (5%-7%), but early withdrawals incur penalties and forfeit interest benefits.

Which investment option provides better returns: liquid funds or fixed deposits?

Answer Field

As liquid funds are linked to the market, they offer slightly higher returns as compared to FDs. 

What are the risks associated with liquid funds and fixed deposits?

Answer Field

While liquid funds are considered to be a safer option, they are comparatively riskier than FDs. FDs are not related to the market condition, but in case the market interest rates increase, your existing FD will not benefit. 

How do the tax implications differ between liquid funds and fixed deposits?

Answer Field

In case of an FD, TDS is deducted at source if interest earned surpasses ₹40,000 (₹50,000 for seniors) in a financial year. In case of liquid funds, when redeemed within three years, returns are taxed based on your income tax slab. After three years, they're taxed as long-term capital gains at 20%.

Which is a safer investment: liquid funds or fixed deposits?

Answer Field

As fixed deposits come with an assured return and they are not market-linked, they are considered to be one of the safest options. Liquid funds, though a safe type of mutual carry more risk as compared to FDs.

What are the key differences between liquid funds and fixed deposits?

Answer Field

While both liquid funds and fixed deposit are safe instruments, they are different from each other. In FDs you deposit a lumpsum amount for a fixed tenure, and get a fixed amount once the account matures. In a liquid fund your investments made in low-risk debt funds that are market linked. 

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