A Comparative Difference Between Debt Funds and Fixed Deposits

Debt Funds vs FD

Debt fund vs FD or Fixed deposits are the most debatable investment choices. Both of them are different from each other in terms of features, advantages, risk factors and more. Hence, it is essential to understand the differences between them before investing in any one of them or in both of them.

Fixed deposits are often considered the safest investment option whereas debt funds are comparatively risky as they are driven by the market forces and conditions. Even though debt funds vs FD are debatable investment options, they are often chosen by investors to save for their future and grow their savings.

In this blog, we will understand the difference between debt fund vs FD to start investing for the future.

What is a Debt Fund?

Debt funds are mutual funds that invest money in fixed income instruments like corporate bonds, treasury bills, government bonds, certificates of deposit, commercial paper and more. Following points provide more details about debt funds-

  • The debt fund based income instruments have a pre-decided maturity date
  • The returns on debt funds are not affected by fluctuations in the market
  • Debt securities are considered one of the options with low risk
  • Investing in debt funds earns investors a steady interest income and capital appreciation
  • The issuer who issues debt instruments pre-decides the interest rate to be received after maturity
  • Debt funds are also known as fixed-income securities

What are the Benefits of Debt Funds?

Following are the benefits of debt funds that make it a suitable investment option with the level of risk factors and tolerance-

  • Debt funds can offer capital appreciation over a period of time, though, the returns on debt funds are not guaranteed and are often driven by market forces, however, they come with a low degree of risk as compared to equity funds
  • Tax reduction made debt funds the most suitable options considered by investors
  • Debt funds do not come with a lock-in period. However, some of the debt funds carry an exit load.
  • Debt mutual funds are liquid in nature, hence, investors can withdraw money from the funds easily
  • Investors can diversify their portfolio by investing in debt funds
  • Debt funds offer the flexibility to move money to different funds
  • Investors have the option to invest a lump sum amount in debt funds and transfer a small portion of the money to equity at regular intervals

Who Should Invest in Debt Funds?

  • Debt funds are suitable for people to meet short and medium-term investment plans.
  • Such funds are the option for investors with lower risk tolerance
  • A person with surplus funds can invest in debt funds
  • Investors who want to diversify their portfolio can invest in debt funds

What are the Types of Debt Funds?

Listed below are the types of debt funds available-

Type of debt fundsExplanation
Liquid fundsInvests in money market instruments
Maturity period of a maximum of 91 days
Offers better returns than a savings account
Alternative to short term investments
Dynamic bond fundInvests in debt instruments of different maturity that are further based on interest rate regime
Considerable option for investors with medium risk tolerance
Investment horizon is 3 to 5 years
Corporate bond fundInvests a maximum of 80% of its total assets in corporate bonds with the highest ratings
Great option for investors with low-risk tolerance
Prefered by those who seek to invest in high-quality corporate bonds
Money market fundInvests in money market instruments with a maximum of 1-year maturityGreat for investors with low risk debt securities for short term
Credit risk fundInvests a maximum of 65% of its investible corpus in corporate bonds with ratings below the highest quality corporate bonds
Carries slight risk
Offers better returns as compared to highest quality bonds
Floater fundInvest a minimum of 65% of its investible corpus in floating rate instruments
Carries low-interest rate risk
Ultra-short duration fundInvests in money market instruments and debt securitiesDuration- 3 to 6 months
Low duration fundInvests in money market instruments and debt securitiesDuration remains between 6 to 12 months
Short duration fundInvests in money market instruments and debt securitiesDuration- 1 to 3 years
Medium duration fundInvests in money market instruments and debt securitiesDuration- 3 to 4 years
Medium to long-duration fundInvests in money market instruments and debt securitiesDuration- 4 to 7 years
Long duration fundInvests in money market instruments and debt securitiesDuration- more than 7 years
Liquid fundsInvests in debt instruments
Maturity of 91 days
They are risk-free
Gilt fundsInvests only in government securities, often high rated securities with very low credit risk
Ideal for risk-averse fixed-income investors
Credit opportunities fundsRelatively newer to other types of debt funds
Do not invest as per the maturities of debt instruments
Earns higher returns by holding lower-rated bonds or taking a call on credit risks
They are considered riskier debt funds
Fixed maturity plansCalled closed-ended debt funds
Invests in fixed income securities like corporate bonds and government bonds
Does not guarantee higher returns

Things to Consider While Investing in Debt Funds

Following are the number of points to consider while investing in debt funds-

  • Investors should understand and evaluate the risks associated with debt funds
  • As debt funds do not guarantees returns, hence, investors should figure out if he/she would like to continue with debt funds or not
  • Investors need to decide which type of debt funds will meet their financial goals
  • Debt funds can be considered as another source of income to supplement regular income from salary, thus, investors should decide whether he/she would want another source of income with risk factors or not
  • Debt fund managers charge a fee to manage funds
  • It is advised to check different sources of investing in debt funds and the services offered by them
  • Connecting with an expert can help clear the basics of debt funds, investment resources, eligibility criteria and more

What is a Fixed Deposit?

Fixed deposits are also known as ‘term deposits’ or ‘time deposits’. It is an investment instrument service offered by Non-banking financial companies (NBFC) and banks. It is considered the safest investment option among many others and allows users to deposit a lump sum amount for a particular time period. In addition to this, FD provides the users with a lot of other features such as-

  • Depositors can earn interest on the deposited amount for the pre-decided tenure
  • The rate of interest once locked remains unaffected by any changes in market or interest rates
  • Depositors can earn interest either periodically or at the time of FD maturity
  • The tenure for FD ranges from 7 days to 10 years and more (might vary from one bank to another)
  • A fixed deposit amount cannot be pulled before the maturity date and if in case, a depositor wants to withdraw the amount, he/she is liable to pay a penalty for it

Who Should Invest in Fixed Deposit?

Listed below are the people who can/should invest in fixed deposits-

  • Someone who is not willing to take market risks
  • The person with a taxable income can opt for FD as a tax saving investment instrument
  • A person who would want to have a constant source of income during the post-retirement phase
  • Anyone who is a housekeeper and has decent money to invest

What should be taken care of when Investing in Fixed Deposits?

The right way to choose fixed deposits is to go through the following factors-

  • Compare all the types of fixed deposits offered by different banks
  • The type of fixed deposit that matches your requirements
  • The lender’s credibility through the ICRA, CRISIL ratings
  • Customer service offered by the chosen bank
  • If there is FD related flexibility given by the bank
  • If it is required to submit a lot of documents or if KYC documentation is only required (like in the case of Paytm Payments Bank fixed deposit process)

What are the Types of Fixed Deposits?

Here is a comparison chart of different types of fixed deposit

Type of fixed depositsExplanation
Cumulative Fixed DepositInterest is only available at the time of maturity
Users are not eligible for interval-based interest
Higher interest rate
Suitable for people who are not looking for regular interest paymentFD tenure ranges from 1 year to 5 year
Non-Cumulative Fixed DepositInterest provided at regular intervals
FD tenure ranges from 1 to 5 years
In case of regular interest payout, one will be eligible for a decreased amount at the time of maturity
Suitable for people who need regular income in the form of interest
Bank depositsOffered by banks to customers with saving accounts
Rate of interest is lower than the rates offered by non-banking financial companies
Company depositsOffered by NBFCs with a higher rate of interest
For companies with good creditworthiness
Senior citizen FDFor people above 60 years of age
Offers higher rate of interest as compared to other FDs
Flexible tenure
NRIs FDsApplicable for NRIs, OCI, PIO with NRO accounts
Higher rate of interest as compared to traditional saving accounts
Fixed tenure
Payment mode- NEFT/RTGS from NRO bank account
Regular FDsRegular form of investment
User can invest the amount for a particular time period
A predetermined rate of interest is offered
High interest rate
Tax saving FDsOffered by a major number of banks
Tax exemption up to Rs. 1.5 lakh annually
Lock in period of 5 years, before that, the amount cannot be withdrawn
One time lump sum amount deposit
Standard FDsFixed tenure
Predetermined rate of interest
Tenure starts from 7 days to 10 years
Higher interest rates as compared to saving account

What are the Benefits of Fixed Deposit?

The benefits of fixed deposits are numerous, following are a few among them-

  • Fixed deposits are considered the safest investment option as compared to other saving investments options
  • Customers can check the interest they will receive on the deposited amount by using the FD calculator available on the respective bank’s website
  • Upon the maturity of a fixed deposit account, customers can either direct banks to credit the amount or reinvest the amount for another pre-decided tenure
  • Interest offered on the fixed deposit account remains unaffected even after fluctuations in the market, that too, throughout the decided tenure
  • FDs offers an assured rate of interest
  • Customers can reinvest the matured FD amount again for the decided tenure, on which, compound interest will be provided to him/her
  • Banks offer flexibility to their customers to choose the tenure for fixed deposits
  • There are several banks that offer tenure from 7 days to 10 years
  • Several banks offer fixed deposits with tax-saving benefits

Comparative difference between Debt Funds vs FD

ParticularsFixed DepositsDebt Funds
Rate of returns5%-8%7%-9%
RiskLowLow to moderate
WithdrawalA penalty has to be paid by the depositor for premature withdrawalPremature withdrawal allowed with or without exit load (depends on the type of mutual fund)
Investment expenditureNo management chargesNominal expense ratio is charged
Investment optionsLump-sum investmentSIP investment
One time investment
Can I withdraw the FD amount before maturity?
Banks offer ease for premature withdrawal of the amount from FD with a penalty to be paid.
What is the risk factor associated with debt funds?
Debt funds risk factor ranges from low to moderate.
Who should invest in debt funds?
Investors who want to achieve their short or mid-term financial goals should invest in debt funds. Apart from that, people who want to diversify their portfolio and a person with surplus funds can invest in debt funds.
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