Understanding Liquid Mutual Funds

The writer is a Delhi based Certified Financial Planner CFPCM, conferred upon by the
Financial Planning Standards Board. If you are an Indian resident looking for a financial plan prepared according to your needs & goals, write to her at shruti(AT)richesawait.com

Indians are by nature excellent savers, almost each and every one of us has at least one savings account in their name. We fall in love with our bank balance once it starts approaching a “nice looking” figure. While a big bank balance looks nice, do you know that you are actually losing your hard earned/saved money if a large amount of money is lying idle in your savings account? This is because the interest rates given by most savings account is around 3.5% to 4%, which is lower than the inflation rate. So instead of growing, your money actually loses its inherent value if kept in savings account.

Although Indians are good savers, they are poor investors. This is because they are so used to keeping their money in savings account and FD’s (another favorite of Indians), that they are only comfortable with vehicles which provide safety and easy accessibility of their money. They shy away from risky investment vehicles even if they provide high interest rates. They are happy with negligible returns as long as their money is secure and safe. It is because of this mindset that majority of Indians fall short of attaining their dream of great riches, in spite of the fact that they save regularly and religiously.

Do you know there is a type of mutual fund available which offers almost the same safety and accessibility of funds as savings account, but offers better interest rates (almost double compared to your regular savings account)?

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Yes you read it right, they are called “Liquid Funds

Liquid Mutual Funds offer almost the same safety and availability as savings bank account and the cherry on cake: better returns. Let’s understand what Liquid Mutual Funds are and if they are good for you or not.

What are Liquid Mutual Funds?

Liquid Funds are debt mutual funds that invest your money in short term money market instruments that hold the least amount of risk. The investment objective of a liquid scheme is to provide investors an opportunity to earn returns through bonds and similar instruments (as opposed to stocks which equity funds invest in), without compromising the liquidity.

Liquid funds can help you in earning much higher rates than what the savings deposits offer, without compromising too much on how quickly we can get our hands on the cash.

Key advantages of Liquid Mutual Funds:

  • Better returns –  Liquid funds can easily give around 7% return, in past they have given return as high as 9% as well. This is almost double of what is offered by savings bank account around 4%.
  • Instant Redemption – Almost all the fund houses offer instant redemption facility for their liquid funds. This means you get your money within minutes. SEBI has capped this limit to 50,000 a day or 90% of your portfolio’s value,whichever is lower.
  • No exit load –  Unlike FD’s where you have to bear fines for pre-mature withdrawal. There are no exit load charges in liquid funds. You won’t be charged any extra fees in redemption, no matter when or how much you withdraw.
  • No lock-in period – There is no minimum investment time for liquid funds, you can park your ideal money for as short a duration as 1 day. Investors can redeem their investments anytime and money reaches their bank account on the next working day. Or instantly if withdrawal amount is 50,000 a day or 90% of your portfolio’s value.
  • Relatively Safe – Liquid funds are the safest and least risky mutual funds. This is because they don’t invest in equity markets, but in short term money market instruments of highest credit rating. Short term instruments means changes of interest rate fluctuations are less. And highest credit rating ensures that default risk is very minimum, almost nil. (Keep in mind that although the risk is very low, liquid funds are not entirely risk free, although rare but there have been instances when liquid funds NAV has gone down.)
  • No TDS – The interest earned on FD’s and savings account fall under TDS. But in liquid funds there is no TDS and you pay tax only on the return that you withdraw. The tax rate is the same as that on your income.

So in a nutshell they offer safety, good returns and flexibility of redemption anytime.

Liquid funds cannot be full fledged substitute for savings bank account. This is because most liquid funds don’t offer facilities like ATM withdrawal and you might be stuck in a cash crunch in case of emergency if you depend wholly on liquid funds.  You should use bank account to hold your day to day funds as well as any deductibles such as EMI’s ect which go from your account. Use liquid funds to hold money you might not need in the next couple of months.

So, mobilize unused money lying in your bank account and move it into liquid funds.

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