Investments in fixed-income instruments including commercial paper and government securities with maturities of up to 91 days are the primary focus of this fund. NAV is the value of a company’s total assets.
What is difference between debt and liquid fund?
There is a lot of confusion about the difference between a debt fund and a liquid fund. That’s not the case. This category of mutual fund invests in fixed income instruments, such as bonds and mortgage-backed securities. The liquid fund is a subclass of the debt fund scheme that invests its funds in short-term fixed securities. Despite the fact that debt funds are the parent category and liquid funds are a subset of them, liquid funds and other fixed income Mutual Fund schemes differ greatly. As a result, in this post, we’ll examine the distinctions between liquid funds and debt funds in terms of several factors such as returns, risk and more.
What is liquid funds in mutual funds?
This form of mutual fund invests in securities having a maturity of up to 91 days, which are called liquid funds. Liquid funds do not have a lock-in period, thus the assets invested are not locked up for an extended period of time. A liquid fund is preferred over a fixed deposit by an investor seeking higher returns.
Are liquid debt funds safe?
Investing in a savings bank account is regarded the sole risk-free alternative. It is also guaranteed that your account will be credited with the interest. Savings bank account interest rates are rarely adjusted, which is a significant drawback.
There is some risk involved, but liquid funds are low risk/low return vehicles. Due to the fact that they invest primarily in debt instruments, they face interest rate and credit risk. The price of debt instruments may be affected by changes in interest rates. Because of this, the liquid fund’s NAV may change. If you look at the NAV of liquid funds, you may not see a lot of volatility because they invest in short-term debt instruments.
Defining credit risk is referring to the possibility that the issuer of the debt instrument will default on the payment of interest and principal. You may rest assured that the money you put into liquid funds will only be invested in high-quality investments. Credit risk can be reduced by diversifying the fund’s portfolio of securities.
Average Maturity
The average maturity of the underlying securities is the first and most significant distinction between liquid funds and debt funds. Fixed income instruments with a maturity of 91 days are the focus of liquid funds. In addition, these investments are held to maturity.
There is no time limit on the maturity of debt funds. According to the kind of fund, the average maturity varies from one fund type to the next. Based on this, the maturity profile of the underlying securities in the debt fund portfolio can be a mix of short and long term instruments.
Risk
Liquid funds have a relatively minimal risk component. Due to the low average maturity of the underlying assets, the reason for this is simple: Thus, the interest rate and credit risk associated with these funds are likewise minimal. As a result, the securities are held until maturity rather than being traded.
Debt funds are more susceptible to interest rate and credit risk than equity funds. Prior to investing in these funds, it is important to conduct an evaluation.
Returns
As a result, the interest rate variation in liquid funds is quite low. Because of this, these funds are more likely to provide steady returns.
The returns of a debt fund are affected by changes in interest rates in the country.
Liquidity
Liquid funds are more accessible than other mutual fund options. Investors can exit this fund at any time without incurring any fees. In addition, many AMCs allow customers with liquid assets to redeem their investments right away. Investors can have their money in their bank accounts within 30 minutes after placing an order through this service.
Liquid funds are the only debt money that can be accessed quickly. Next business day after the redemption request, investors will receive their maturity proceeds.
Taxation
Liquid funds are taxed the same as debt mutual funds because they are part of debt funds. When holding a debt fund for less than three years, short-term capital gains (STCG) are generated. Capital gains are taxed according to the individual’s income tax rate. Additionally, long-term capital gains (LTCG) are generated if a holder has held the asset for more than three years. Capital gains are taxed at a rate of 20%, with the advantage of indexation.
Can I lose money in liquid funds?
One of the safest mutual funds is Liquid Funds. So since they lend short-term, which decreases the risk of lending to good companies. There is virtually little risk of losing money if you remain involved for an extended period of time.
Can liquid funds give negative returns?
During the first 10-11 years of a liquid fund’s existence, they had a great deal of freedom and were allowed to make their own valuations without interference from the fund managers. A ceiling on how long bonds could be held was progressively put in place over time, and once that was in place, they would not typically go past that limit.
Liquid funds didn’t drop in value overnight throughout the first 10-12 years. One or two funds in the 2008 financial crisis were the first to see this phenomenon occur. As a result, several of the liquid funds experienced a significant drop in value overnight during the ‘taper tantrum’, when the head of the American Federal Reserve stated that interest rates will rise. However, in the following three to four days, the value of the stock recovered.
Liquid fund operation framework regulations have changed significantly in the recent one-and-a-half-two years. Liquid funds previously classified as “extremely conservative” have been reclassified as “overnight funds.” As a result, overnight funds are rare to face a circumstance in which their value decreases even over the course of a single day. The value of liquid funds can decrease. Due to the strict controls, it is unlikely that they will fall in value. In any event, the fall could be extremely small and rebound in a matter of days if it does occur.
Some liquid funds held AAA-rated commercial paper or very short-term money market instruments issued by the corporation, and these instruments were written off after the IL&FS crisis. Thus, these funds would never be able to recoup the money. However, this was a one-of-a-kind case. Those are the only specimens of their kind that we’ve come across.
Are liquid funds tax free?
Only equities and non-equity mutual funds are taxed in the broadest sense of the term. At least 65 percent of the assets in an equity fund are invested in the stock market. Stocks diversified funds, a balanced fund with 65% equities, and arbitrage funds are all considered equity funds for tax reasons. In terms of taxation, all funds other than these are considered debt funds. For tax purposes, debt funds, Fixed Maturity Plans (FMPs), MIPs, liquid funds, short-term funds, Fund of Funds, and Gold Funds are all considered non-equity funds. Non-equity funds, such as liquid funds and debt funds, are subject to the same tax treatment. Let’s take a look at the taxation of debt funds and the ramifications of investing in liquid mutual funds. Liquid funds vs. debt funds are taxed differently, and here are four crucial points to keep in mind..
Investing in these debt or liquid funds allows you to choose between a growth or dividend plan. A dividend plan distributes a portion of the fund’s profits and revenue to its investors. So, how are debt funds and liquid funds taxed when they provide dividends to shareholders? This is a list of two things to remember:
In the hands of the fund investor, dividends received from a debt or liquid fund are completely tax-free. This is a long-term advantage, making it a better choice than a debt instrument.
However, the fund deducts a dividend distribution tax (DDT) from dividend payments. As compared to pure debt instruments like FDs, the tax rate for debt funds and liquid funds is 28.84 percent, which is a negligible gain.
Debt and liquid funds are taxed differently than equity funds when it comes to capital gains. Because debt funds and liquid funds are both non-equity funds, their capital gains tax treatment is the same for both. Here are three things to keep in mind:
Debt funds have a 36-month limit on long-term capital gains. For short-term capital gains, the debt fund must be held for a time of less than 36 months, and for long-term capital gains, the debt fund must be held for a period of more than 36 months.
After factoring in indexation, long-term capital gains on debt funds and liquid funds are taxed at a rate of 20 percent. Long-term gains on debt funds can now be taxed at a lower rate.
In the case of short-term gains, investors in debt and liquid funds will be taxed at the peak rate on their entire regular income. Paying taxes is a percentage of your income, and the higher the percentage of income you earn, the higher your taxes will be.
If a debt or liquid fund is kept for more than three years, it is considered a long-term capital gain. Investing in a debt fund and keeping it for a period of time greater than 36 months can provide you with the benefit of Triple+1 indexation. How to do it?
On March 28, 2014, the XYZ AMCDetailsIndex Value (IT Act) was Rs.100.000.
Investing Rs.25.00 in NAV
100000/254000 units purchased in 2013-14, which is the index value. On April 3, 2017, he was freed. NAV of Rs.34.19 per share The 2017-18 Index Value is 272. Return on Investment (ROI) = (136760 – 100000) Rs.36,760/- Indexed Acquisition Cost Calculation Indexation factor (272/220): Rs.100,000 purchasing cost 1.236 Rs. 136,760 – Rs. 123,600 = Rs. 13,160LTCG Tax Payable at…20 percent of LTCG after indexationRs.123,600 LTCG after indexation 20% of the 13,160Rs.2,632Effective Tax Paid was spent on taxes. 7.18 percent of 36,670 = 2,632
As long as you buy and sell by the end of fiscal year 2013-14, you’ll receive indexation benefits for four years by holding on to the fund for just six days longer than the three-year limit.
Additional indexation reduces the effective tax rate on long-term capital gains on debt funds from 20% to 7.18%, which is substantially lower than the actual impact.
You can significantly increase your post-tax returns on loan capital by timing your purchases and sales. Keeping this in mind and planning accordingly is essential.
How do I start a liquid fund?
To invest in a liquid fund, a KYC registration agency must be completed by the investor. To complete the KYC process, you’ll need to provide documentation (such as your address and ID verification) in the form of originals.
Should I invest in liquid funds?
Net asset value changes are the primary source of risk in mutual funds (NAV). As the underlying assets mature within 60 days to 91 days, NAV does not move too frequently, and thus protects the fund from being adversely harmed by the fluctuations in the asset price. But if the underlying security’s credit rating is unexpectedly downgraded, the fund’s value could fall quickly. In a nutshell, liquid money are not completely risk-free in plain terms.
Liquid funds have historically returned between 7% and 9% in profits. Compared to the 4% interest rate offered by a savings account, this is a much better deal. Despite the fact that liquid funds’ returns are not guaranteed, they have typically given positive returns upon redemption.
You’ll pay a “expense ratio” when you invest in a liquid fund. The maximum expense ratio allowed by SEBI is 1.05 percent. Low expense ratios in liquid funds provide for larger returns over a short period of time due to the fund manager’s hold-til-mature approach.
Liquid funds are appropriate for short-term investments, such as three months or less. You can realize the full potential of the underlying securities if you have a short-term perspective. Investing in ultra-short-term funds is a good option if you have a longer investment horizon, such as a year or more.
An emergency fund can benefit greatly from a stash of liquid funds. You’ll also be able to get your money out of these more swiftly in the event of an emergency.
In the event that you invest in debt funds, you will be taxed on any capital gains you make. A debt fund’s tax rate is determined by the length of time you’ve invested in the fund. The holding period is the amount of time you’ve invested. Since liquid funds are debt funds, short-term capital gains are earned in the first three years (STCG). Long-term capital gains are those that have been accrued for at least three years (LTCG). If you’re in a higher income tax bracket, you’ll be taxed at a higher rate on your STCG from debt funds. After indexation, long-term capital gains on debt funds are taxed at a flat rate of 20%. All mutual fund dividends are included in your total income and taxed according to your income tax bracket.
Which is the safest liquid fund?
It is an open-ended short-term debt fund called Liquid Mutual Fund. Short-term money market products are the focus of this fund. In terms of interest rate and default risk, liquid mutual funds are the safest. They can be cashed out in a matter of hours and are highly liquid. As a result, they are suitable for storing short-term surplus cash or establishing an emergency fund. In India, a liquid mutual fund is the most secure form of debt fund.
Is debt Fund better than FD?
Mutual funds that invest in bonds, treasuries, commercial paper, certificates of deposit, and other fixed-income products are known as debt funds. The Securities and Exchange Board of India (SEBI) has categorized and rationalized debt funds into 16 different types. It categorizes debt funds based on where they invest their capital.
The asset management company offers direct programs for debt fund schemes. With the help of a mutual fund distributor, you can invest in regular plans of debt fund schemes. You might want to think about using a website like cleartax invest to make a debt fund investment.
Debt funds having a one to three year maturity duration invest in bonds. Low-risk investors with a comparable time horizon can benefit from this investment. For investors in higher tax bands, it is a more tax-efficient investment than a fixed deposit.
Debt funds are under pressure from investors to redeem their investments. As a result, there is a lack of liquidity in India’s bond and money market markets. Selling pressure pushes up the traded yield levels as trading volumes decrease. It causes a drop in prices and negative returns on debt funds.
The repo rate has been lowered by the Reserve Bank of India (RBI) in recent months. Short-term debt funds are less profitable when interest rates decline. A declining interest rate environment is ideal for long-term debt funds.
By investing in bonds and other fixed-income assets, debt funds can earn profits. These securities would be purchased by debt funds, which would then earn interest on the money they invested. It is the interest income that determines the dividends you and other investors receive from debt funds.
Interest rates in the economy affect the price changes in various types of bonds that are invested in by debt funds. Increases in bond value might result from falling interest rates, which can increase the fund’s return on investment (ROI).
To safeguard your portfolio against stock market volatility, you must include debt funds in your portfolio. Regardless of your age or how interest rates fluctuate in the market, you must always have debt funds in your portfolio.
Depending on your financial goals and risk tolerance, it is possible to invest in debt funds. To get the most return on your investment, start investing in debt funds as soon as possible and stick with them for the long haul.
By accessing the mutual fund house’s website, you can invest in direct plans of debt funds online. If you have a PAN and Aadhaar number, you can fill out the application form and complete eKYC.
Once your information has been verified by the AMC, you will be able to send money using your online bank account. Investment in direct mutual funds can be done online in India via cleartax invest and similar platforms.
- A mutual fund house’s track record can help you choose the best debt funds. Before investing in debt funds, learn about the fund manager’s investment philosophy.
- Invest in a well-known mutual fund company with a substantial portfolio (AUM). During an economic downturn, it may be able to withstand the rapid pressure of redemption.
- The debt fund’s portfolio should be evaluated for its credit quality. Debt funds with AAA-rated bonds in their portfolio may be an option for you.
- Before investing in debt funds, you may want to think about your risk tolerance. Interest rate risk affects debt funds, particularly long-term debt funds.
Interest rate swings have resulted in negative returns for debt funds. Longer-term debt funds are more at risk from interest rate fluctuations.
This type of mutual fund is called a “ultra-short debt fund.” Macaulay bonds with a length of three to six months are used in this strategy.
Direct plans for short-term debt funds can be purchased directly from the mutual fund house. A mutual fund distributor can assist you in making recurring investments in short-term debt funds. Investments in short-term debt funds can also be made through an online platform like cleartax invest.
- If your investing goals and risk tolerance necessitate short term debt funds, select them from the debt funds category, then click on Invest now.
- Short-term debt fund investors must decide how much money they want to invest and how often they want to invest in the One-Time or Monthly SIP options.
If you retain debt funds for a long period of time, you may be subject to capital gains tax. Strictly speaking, you’ve made short-term capital gains if you invest in debt funds for less than three years before selling your assets (STCG). Your taxable income is increased by the short-term capital gains, which are then taxed in accordance with your tax bracket.
A long-term capital gain is a capital gain that accrues over a period of at least three years (LTCG). With indexation and relevant cess, long-term capital gains are taxed at a rate of 20%.
An accrual-based method is employed by accrual debt funds. Investments in short- to medium-term bonds are the focus of this form of debt fund Its primary objective is to keep investments until they reach their full value.
Changing interest rates can affect a bond’s price sensitivity, which is shown by the bond’s modified duration. Bond prices and interest rates fluctuate in opposite directions, thus this is an easy rule to follow.
The price sensitivity of a bond to changes in its yield to maturity can be determined using a modified duration. By multiplying a bond’s Macaulay Duration by a factor of (1+y/m), you may determine its modified duration.
M stands for the number of times a year a coupon payment is made, and y stands for the yearly yield to maturity
Long-term capital gains are earned if you retain debt funds for three years or longer and then sell them for a profit. With the indexation benefit, your long-term capital gains in debt funds are taxed at 20%.
Using indexation, you can make inflation-adjusted adjustments to the cost of your debt fund investments. CII, or the Cost of Inflation Index, can be used to measure the cost of debt mutual fund units.
On the other hand, if you bought 1,000 units of a debt fund in the fiscal year of 2013-14 at a NAV of Rs 15. This year, you sold 1,000 units of the debt fund for Rs 22 each. Your long-term capital gains of Rs 7,000 (Rs 22 – Rs 15) * 1000 are referred to as long-term capital gains because you have held the debt fund units for more than three years.
Debt fund ICoA is the indexed cost of acquisition (CII of the year of sale / CII for the year of purchase).
This means your capital gains will now be Rs 2,909, which is the difference between Rs 22,000 and Rs 19,091.
Long-term capital gains tax of 20% on Rs 2,909, or Rs 582, must be paid.
Mutual funds that invest in bonds, treasury bills, commercial paper and other money market instruments like certificates of deposit are known as “debt mutual funds”.
For inflation-adjusted purchases, indexation is a tool that can help. This example will help you understand how indexation is calculated in debt funds.
Assume that in FY 2015-16, you invested Rs 1 lakh in debt mutual funds. After more than three years, you redeemed your investment for Rs 1,50,000 in FY 2019-20. In this case, your profits total Rs 50,000.
Your Inflation Adjusted Purchase Price of Debt Funds is equal to Actual Purchase Price of Debt Fund X (CII in the Sale Year and CII in Purchase Year, respectively)
Paying LTCG tax on Rs 36,220 instead of Rs $50,000 means you’ll pay a 20% tax rate on the difference between Rs 1,50,000 and Rs 1,00,000.
You pay Rs 7,244 in long-term capital gains tax, which is 20% of Rs 36,220 in LTCG on debt funds.
Sixteen different types of debt funds have been categorized by SEBI. Overnight funds, liquid funds, ultra-short duration funds, low duration funds, money market funds, short-duration funds, medium-duration funds, medium to long-duration funds, long-duration fund, dynamic funds, corporate bond funds, credit risk funds, banking and PSU funds, gilt funds, gilt funds with 10-year constant duration and floater funds are available.
Based on your investing goals and risk tolerance, you can choose the optimal debt fund. Check out the debt fund’s portfolio. Debt funds with AAA-rated bonds in their portfolios are available to investors. It is more secure than bonds with lower ratings.
Invest in a low-cost debt fund. Prior to selecting the best debt funds, take a look at the mutual fund house’s and fund manager’s track record.
Investing in fixed income assets is a common practice for debt funds. Investments in bonds are less volatile than investments in equity funds, which invest in stocks. Debt funds can be used to diversify your investment portfolio.
Interest rate swings and the type of debt fund determine how safe a fund is. When interest rates rise, long-term debt funds may have negative returns. When interest rates fall, short-term debt funds give lesser returns. Investments in credit risk funds are made in bonds with a lower credit rating. You could lose money if the bond-issuer fails to fulfill its debts, including principal and interest.
Fixed-income securities are the primary focus of debt funds. There are many types of debt funds, and liquid funds are one of them. It makes fixed-income investments with maturities ranging from three months to ninety-one days. There may also be longer-term loan funding available.
Due to the minimal level of risk associated with liquid funds, they are sometimes referred to as “liquid.” When compared to other debt funds, this one has a low level of credit and interest rate risk.
If you’re looking for a way to get your money back quickly, a liquid fund is the best option.
The primary distinction between debt and equity mutual funds is where the money is invested. Derivative funds engage mostly in debt instruments, whereas equity funds invest primarily in equity securities and linked securities of firms.
You have the option of investing in equity or debt funds, based on your financial goals and risk preferences. Investing in equity funds can help you meet your long-term financial goals.
Over a period of five years, equity funds would do well. If your financial goals are only one to three years away, you should use debt financing.
Equity funds invest mostly in company stock. Fixed-income securities are the primary focus of debt funds.
In order to meet your investing goals and risk tolerance, you can select between equities or debt funds. For long-term financial goals like buying a house or saving for retirement, equity funds are a good choice. For short-term financial goals such as vacation savings, debt funds are a safe investment option.
You can protect your portfolio from stock market volatility by diversifying it with debt funds. Debt funds can be used to meet short-term financial objectives. Debt funds are less hazardous than equities funds since they invest in fixed income instruments.
Depending on the type of debt fund, mutual funds invest in a portfolio of bonds with varying credit ratings. Credit risk is the risk that a bond-issuer may not be able to pay its debts, including interest and principal.
But credit risk funds invest in bonds with a lower credit rating. As a result, it is more susceptible to credit risk than a debt fund that invests in AAA-rated bonds, which have a reduced risk of default.
Fixed deposits are taxed at a higher rate than debt money. Fixed deposit interest is taxed according to your income tax bracket and is included in your taxable income.
The term “short-term capital gains” refers to gains made after holding debt funds for less than three years (STCG). As a result, the STCG is included in your taxable income and taxed according to your income tax bracket.
But if you keep debt funds for a period of three years or more, your gains are considered long-term capital gains (LTCG). LTCG would be taxed at a rate of 20%, with the advantage of inflation. As a result, it is more tax-friendly than a bank fixed deposit.
Debt funds are more tax-efficient than bank FDs if you have an investment horizon of more than three years and are in the higher income tax bracket.
Under the accrual method in debt funds, you try to generate a steady stream of revenue by holding onto the paper until it matures. The accrual technique is used by fund managers to invest in short and medium-term fixed income securities. Buy and hold approach in which the investments in a portfolio are held to maturity.
Funds that attempt to generate interest income primarily from the coupons supplied by the assets they hold in their portfolio are known as accrual funds. Accrual funds, on the other hand, may receive a small fraction of their overall return from capital gains.
- For short-term capital gains (STCG) from the sale of assets other than those listed above, use the ITR utility’s ‘CG’ page to enter the information.
- Add the amount of short-term capital gains (STCG) in the ‘F’ section of the ‘CG tab’ under’short-term capital gains taxable at relevant rates’
Does debt fund guaranteed return?
No. Returns on debt funds are not guaranteed. There is no interest income in debt funds, but rather a growth in the fund’s value. Debt fund returns are comparable to bank FDs and even better after taxes, according to historical data.
