High FD Interest Rates: Bank FD vs Debt Mutual Funds- Where To Invest?

For many, deciding on where to invest their hard earned money can be a daunting task. Two popular options are fixed deposits (FDs) and mutual funds. Both of these options offer several advantages, catering to different financial goals and risk tolerance.

Two of the leading banks of India, SBI and HDFC Bank, raised their fixed deposit (FD) interest rates across different tenors in June 2024.

HDFC Bank has increased the FD rates by up to 20 basis points (bps). The FD rate with a tenor of 2 years and 11 months to less than 3 years has been raised to 7.15% from 7%. And the interest on FDs for 3 years and 1 day to 4 years and 7 months has been increased from 7% to 7.2%.

SBI has raised the FD rates for deposits maturing between 46 and 179 days by 75 bps from 4.75% to 5.5%. Moreover, interest rates have been raised by the bank from 5.75% to 6% for loans maturing between 180 to 210 days, and for 211 days to less than a year from 6% to 6.25%.

Fixed deposits offered by the banks guarantees a fixed return, making it ideal for short-term goals or for those seeking capital preservations. On the other hand, mutual funds offer the potential for higher returns, subject to market fluctuations.

However, various aspects should be considered before deploying funds. An overview of what investors should consider before making a decision about fixed income investments:

FDs are safe, but fixed income mutual funds provide more

Banks FDs are considered to be one of the most secured investment options. It is ideal for those who desire a secure and consistent income. However, fixed income mutual funds – including fixed maturity plans, long duration debt funds, gilt funds, and liquid funds – provide higher returns than bank deposits.

Long term debt funds, which invest primarily in fixed income securities issued by the ‘Government of India’, performed the best among debt mutual funds, yielding around 7.9% over a one-year period. Fixed maturity plans, a proxy of FDs among debt mutual funds which invest mainly in certificates of deposit issued by the bank, provide a return of 6.9% over one year. However, bank FDs with a similar term provide roughly around 6.5% interest.

Fixed income mutual funds provides liquidity

Fixed income mutual funds provide liquidity since investors can redeem their units whenever they want. However, this is not the case for bank FDs. Premature withdrawal of FDs, often comes with a lock-in period, that results in penalty.

Impact of taxation

Mutual funds are taxed only at the time of redemption or sale if they make a profit, and not throughout the accumulation of return. Whereas FDs are taxed as per the applicable tax slab, even when they are accruing interest.

If the interest income from FDs is higher than ₹40,000 per year, investors with PAN number are required to pay 10% as Tax Deducted at Source (TDS), while for those without a PAN number a 20% TDS is levied.

Investing wisely requires a balance between growth and stability. While fixed deposits give stability, mutual funds have the potential for greater returns.