FD vs FMP – Which is better to invest money?

FMP vs FD

Well almost everyone is aware of fixed deposits today. And I am sure that the person who is reading this has made most of his investments in fixed deposits only. There is nothing wrong in it as most of us tend to save in familiar and simple products. Also, there is no risk and the returns are assured which make FD’s the best place where investors can take refuge.

But very few investors are aware of FMP’s(Fixed Maturity Plans) and the benefits they offer above bank fixed deposits. So let’s find out in detail what FMP’s actually are and what kind of benefits they offer.

What are FMP’s?

FMP’s or fixed maturity plans can be defined as the closed ended debt mutual funds which have fixed maturity date unlike other debt mutual funds. The fund houses from time to time come up with new NFO’s for subscription. One is allowed to make investments only during the subscription period when it is accepting applications from investors. Once the investment is made it cannot be redeemed before maturity. However just like all other close ended mutual funds, the FMP’s are also listed on the exchanges which may offer an option to exit but remember the liquidity is very low.

They generally invest in corporate deposits, certificate of deposits, commercial papers and various money market instruments. The fund manager ensures that these instruments mature on or just before the maturity of the fund.

ADVANTAGES OF INVESTING IN FD’S

• Low risk.
• Assured returns.
• Premature withdrawal possible (penalty will be imposed).
• One can invest even for 7 days.
• Auto renewal facility at maturity.
• Flexible interest payout.

DISADVANTAGES OF INVESTING IN FD’S

• Low returns.
• Higher tax outgo.
• Not recommended for individuals in higher tax bracket.

ADVANTAGES FOR INVESTING IN FMP’S

• Higher returns than FD’s.
• Lower tax outgo hence tax efficient.
• Highly recommended for individuals in higher tax bracket.
• No interest rate risk.
• Indexation for an extra year can be earned by just investing for few more days.

HOW FMP’s ARE BETTER THAN BANK FD’S?

We have tried making a comparison between the two on various parameters:

1. RETURNS
The returns offered by banks on fixed deposits are fixed and assured while the returns from FMP’s are indicative and are generally on a higher side than FD’s. The interest rates offered by the India’s largest public sector bank SBI (w.e.f. 09.05.2019) is just 6.7% for FD’s of duration of 3 years to 5 years. One can expect around 8% returns approximately from FMP’s which primarily invest in AAA rated instruments while returns from FMP’s which invest a major portion of its funds in AA rated instruments can be upto 9%. Nevertheless, the returns from the FMP’s are always on a greater side because of the indexation benefit they offer.

2. TAXABILITY
The income received in the form of interest is added to the income of the individual and is taxed according to one’s tax slab. A person in the highest tax slab of 30% is effectively getting only 4.69% after accounting for taxes to be paid.

While on the other hand in case of FMP’s one can avail the benefit of indexation. The long- term capital gains from FMP’s are taxed at 20% after indexation while the short term gains are added to your gross total income.

Now one might be thinking what is indexation? Indexation means that we are adjusting the long-term capital gains by considering inflation during those years in which the investment is made and hence lowering our tax out go.

For e.g. Suppose a person has invested a sum of Rs 100000 each in FMP and FD in March FY2014-15 which are going to mature in April 2018-19.

So let’s see how taxation affects the final effective rate of return which an investor will earn in these two instruments.

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*all the calculations are made assuming the individual is in higher tax slab.

As one can see that the investment of Rs 100000 in FMP has generated post tax returns of around Rs 46423 while on the other hand the investment in FD has generated only Rs 27583 in 3 years of time period. Translating this into CAGR terms, investment in FMP has performed much better than FD by generating post tax returns of around 7.92% whereas it is only 4.99% in case of FD.

3. LIQUIDITY
The FD’s and FMP’s both have a fixed term for which the investments are to be made. However banks allow premature withdrawals after charging a penalty of 1% on the interest rates applicable. For e.g. If you have invested in a five year FD but redeemed your money after say 2 years then in this case the penalty of 1% will be imposed on the FD’s interest rate applicable on investment of 2 years.

However, FMP’s do not allow premature withdrawals before maturity in any case.

4. SUITABILITY
FD’s are suitable for those who are in lower tax bracket and cannot take any kind of risk. While on the other hand FMP’s should be the preferred choice for those who are in higher tax bracket as they can save on their tax outgo because of indexation benefit. Also one should be able to digest the volatility in NAV of FMP’s before maturity which may occur due to interest rate movements.

5. MINIMUM AND MAXIMUM SUBSCRIPTION
One can invest as low as Rs 500 in FD’s while FMP’s require a minimum investment of atleast RS 5000. There is no limit on maximum amount that can be invested in any of these.

FAQs

Q1. Does FMP’s provide protection of capital?
A. No, FMP’s do not provide capital protection as there is some sort of credit risk and default risk involved. Hence one should carefully read the offer document which contains all the information regarding the investment policy of a particular scheme.

Q2. I am in lowest tax bracket (5%), should I prefer FMP’s or FD?
A. You may not be gaining anything in terms of taxes if you invest in FMP, so you may prefer FD over FMP. However, if you want to earn slightly higher returns you may invest in short duration FMP’s.

Q3. Can I withdraw my investments before maturity in case of FMP’s?
A. No, FMP’s do not allow premature withdrawals in any case.

Q4. Who can invest in FMP’s? Are they suitable for risk averse individuals?
A. Anyone who is looking for steady returns can invest in FMP’s. One should look at the ratings of the instruments where the FMP intends to invest in the offer document before investing.

Q5. Are FMP’s regulated?
A. Yes, all the mutual fund schemes are regulated by SEBI.

Q6. Is my investment in FD’s is 100% risk free?
A. No, even banks may also default. And only the amount upto Rs 100000 is insured by DICGC (Deposit Insurance and Credit Guarantee Corporation), which is a subsidiary of RBI.

Q7. Do FMP’s offer assured returns?
A. The returns are indicative in nature but not assured as it is in case of FD’s. They are capable of generating returns in the range of 8-9%.

Q8. Where does FMP’s invest?
A. FMP’s primarily invests in certificate of deposits (CD’s), commercial papers, bank deposits and other money market instruments.

Q9. Do FMP’s provide regular monthly income?
A. Since FMP’s are close ended funds, they do not provide any regular flow of income. However one may choose dividend option plan which may provide some income when dividends are declared.

Q10. FMP’s get listed on the exchanges. So do I need to have a demat account in order to invest in FMP’s?
A. No, it is not mandatory to have a demat account in order to invest in FMP’s. However you can always hold your mutual fund investments in the demat account, in case you want to.

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