Liquid Fund: An alternative to savings bank account?
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Liquid Fund: An alternative to savings bank account?

Liquid funds are available in various variants such as Daily Dividend, Weekly/Monthly Dividend and Growth option.

 Jinsy Mathew   
  • Mumbai,  May 23, 2016  
  • |  
  • UPDATED   12:00 IST

One of the first thing we Indians like to do when an individual turns 18 years of age, is to not to get a voter ID card made but to run to the nearest bank and open a savings bank account. Call it mental conditioning thanks to the pattern used by the elders for savings or our subconscious love for money safe keeping, we all like to see a heap of money carefully saved in a savings bank account.

This money saved is typically to meet our day-to-day expenses, or be a source of ready cash when in times of emergency or plainly for the proverbial rainy day. The return one fetches on such an account can be anywhere between 4-6%, depending on the bank you choose to associate with.

However, what is not very popular is the existence of a similar savings account offered by mutual fund companies which acts like a bank account and is also similar on safety parameters. With all things being similar, what makes this type of savings account attractive is the return offered by such a fund. Such accounts go by the name - Liquid Fund, and are offered by all the mutual fund companies.

What is a Liquid Fund?

This type of fund is typically an open-ended debt scheme which invests in short term money market instruments such as treasury bills, short term corporate paper etc of upto 91 days. Here, an investor has the option to park one's fund for few days or months and earn returns for the holding period as per market rates. Also, there is no exit load applicable for such a fund. Liquid funds are available in various variants such as Daily Dividend, Weekly/Monthly Dividend and Growth option.

According to Suresh Soni, CEO, DHFL Pramerica Mutual Fund, liquid funds are an ideal investment option for investors with a short-term time horizon. "These funds generally have a very high quality and short maturity portfolio, leading to steady returns even over short time periods. These funds also allow investors to redeem any part or the entire amount of their investment at a day's notice."

They are managed by expert fund managers who actively try to manage the portfolio based on interest rate movements, while at the same time keeping the portfolio credit worthy.

Why should you opt?

The answer to this question is simple. Higher returns.

On an average over the last one year, the best of the liquid fund has provided returns in the range of 8-8.5%, on an annualised basis. This is notably higher than 4-6% which is offered by a savings bank account. For someone who wants to maintain a steady flow of cash, one can opt for dividends which will be credited on a daily, weekly or monthly basis. Here, one has to be cognizant about the tax aspect on dividends which are subjected to a dividend distribution tax of 28.84% which is inclusive of cess and surcharge.

Based on CRISIL AMFI study dated March 2016, average historical returns of liquid funds as on March 31, 2016 are as follows: 1 year (8.20%), 2 year (8.56%), 3 year (8.82%), 4 year (8.87%), 5 year (8.86%), 7 year (7.78%), 10 year (7.78%).

Taxation

Liquid Funds also have the advantage of tax-efficient returns when compared to savings bank account. Here, the long-term capital gains are taxed at 20% after indexation, while short term capital gains are added to your income and taxed at the normal rate applicable to you. Soni is of the view that this tax structure renders a significant benefit, especially for those in the higher tax bracket.

Expert Take

Often, individuals maintain contingency fund in a savings bank account or for some in the form of fixed deposit, such that it is easily reachable and can be liquidated when needed. However, financial planners are of the view that ideally funds allocated to meet contingency requirements should be kept in a liquid fund rather than a bank account or an FD. They site twin benefits of such action. First being - earning more than savings account and the second being the absence of exit load.

When it comes to redemption, the investor can simply place a redemption request and the money accumulated gets credited to ones bank account the very next working day. In case if there is a weekend in between, the money will be credited on a Monday. However, in practical life, this one day gap can be quiet a concern for several individuals. Here, financial planner Sangeethasruthi of Way to Wealth Consulting cites, "Almost every second individual in today's day and age possesses atleast one credit card which can be used to tide over the one day delay."

The other benefit according to Hemant Rustagi, CEO of Wiseinvest Advisors is the added advantage of understanding how a mutual fund functions. "Most often people who haven't invested in mutual fund harbour notions about dealing with a fund house. While opting for a liquid fund, such an individual gets an opportunity to understand how a mutual fund investment is made and the ease associated even at the time of redemption."

In conclusion, as Soni says it's not only about attractive returns, liquid funds have relatively lower rates of taxation, which further enhances overall post-tax returns for the investor. So next time when it comes to maintaining the not-so-immediately required cash, liquid fund is the option to opt for rather than banking only on the bank account!