Fixed Deposits Pique Investors’ Interest Instead of Debt Mutual Funds

Fixed deposits (FDs) have emerged as the preferred investment choice among investors in 2023 as large institutional investors choose to wait on account of the ongoing geopolitical tensions across the globe.

As per a report, FDs are preferred instead of long-duration debt mutual fund schemes.  However, demand remains strong for the shorter duration (less than one year) schemes. FDs have gained prominence due to interest rate hikes and the removal of tax advantages previously offered for long-duration debt funds.  

The 10-year bond yield in the country has experienced an upswing to 7.35% from 7.0% in May 2023. Taking into account the geopolitical tensions, large institutions are looking forward to further hardening yields, thus keeping them on the sidelines. Shorter duration funds (less than one year) continue to draw interest. 

FDs (six months to three years) are a huge draw among large institutions against these, a Line of Credit is also available, thus making it a relatively attractive proposition. 

Generally, FDs have a lock-in period, and an investor would be penalised in case they needed the money before that particular period. Subsequently, an investor earns lower interest rates. 

However, debt funds – especially liquid or short-duration funds – have an advantage as an investor can withdraw money at any given time.

When it comes to tax treatment of FDs and debt funds, it is broadly the same, albeit with a slight difference. An investor’s interest income is added to the annual income and then taxed as per the tax slab. 

In addition, the FD interest income is taxed every year. For example, in case it’s a five-year FD, the interest an investor earns will be taxed on five separate occasions. However, this is not the case with debt funds, such as liquid or short-duration funds. In this case, an investor is taxed only once when they withdraw their investment.

In the case of floating-rate funds, demand is witnessing an uptick, but this is a comparatively much smaller category in the overall debt segment. At the same time, debt index funds, which had experienced strong momentum over the past few quarters, have also witnessed a dip in inflows.