What are Liquid Mutual Funds?

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Liquid Mutual Funds are a type of Debt Mutual Fund, that loans money against very short term high quality bonds issued by RBI, state governments, other banks, and even publicly listed corporates.

Indian TV audiences aren’t new to #MutualFundSahiHai campaign one of which ends with a well-wishing dude telling his friend how he can keep money in mutual funds for shorter time duration, like 3-6 months. That’s what a Liquid Mutual Fund is suited for.

Bank deposits are liable to income tax on interest earned

For a Bank FD or a savings bank account credit interest earned is liable to taxes (see line 26AS in the ITR form). The bank will deduct TDS on your behalf and you’re liable to pay tax as per slab rate (20 percent and 30 percent) and settle the difference with IT department as Self-Assessment Tax.

How does it feel to pay taxes from your own pocket, on paper gains, while the fixed deposit remains intact?

There is an alternative - Liquid Mutual Funds.

How are liquid mutual funds better?

1/ Past-tax annualised returns are higher:

Returns are usually in-line with bank FDs, but since there’s no tax until you redeem, post-tax returns are hands down better than most bank deposits.

Let’s run some numbers. We take category average of Liquid Funds in last 1-Year, which at the time of writing this, stands at 6.95 percent. And, let’s assume you’re in 30 percent tax bracket had an FD of Rs 10,00,000 created 1 year ago, and your bank offered you 7 percent FD.

For your Bank FD you effectively got a post-tax return of 4.82 percent. The tax liability (TDS and Self-assessment Tax in the table above) affects compounding. The amount available in deposit for compounding is less than what’s available in the liquid fund. And as years go by, the gap widens more.

With liquid funds, only capital gains tax apply and that too at the time of redemption. If you withdraw your holdings after 3 years of holding period, you also get indexation benefit to reduce your tax liabilities.

2/ There is no exit penalty:

True to its name, it’s liquid, you can add any amount or withdraw any amount, without any exit penalty, unlike any Bank FD which has an early redemption fee. Some fund houses even offer instant redemption up to 50,000 or 90 percent of your total investment in the fund.

Top five liquid mutual funds by 3Y returns are:

INDIABULLS LIQUID GROWTH DIRECT PLAN

ESSEL LIQUID GROWTH DIRECT PLAN

BARODA PIONEER LIQUID B GROWTH DIRECT PLAN

JM LIQUID GROWTH DIRECT PLAN

PRINCIPAL CASH MANAGEMENT GROWTH DIRECT PLAN

The above benefits make Liquid Mutual Funds a better alternative to bank deposits to park short term money or emergency fund.

Risk disclaimer - Mutual fund investments are subject to market risks, and one should read all scheme related documents before investing in a fund.

Kuvera.in: a free direct mutual fund investing platform.

First Published:Jul 23, 2018 5:27 PM IST