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| Pros and cons between debt funds and bank FDs |
| BS Reporter / Jul 12, 2009, 00:58 IST |
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All debt fund dividends are tax free in the hands of investors, but these are subject to dividend distribution tax (DDT), which is borne by investors only. For the purpose of DDT, debt funds are classified in two categories - cash funds (liquid funds and short-term floating rate funds) and other debt funds (including liquid plus funds). While the rate of DDT applicable on the former is 28.33 per cent, the latter is subject to 14.16 per cent.
In contrast, interest income from a bank FD is taxed as per the individual's tax slab. Here, if the tax slab applicable for an individual is 20 per cent or more, the dividend option under the second category of debt funds, with 14.16 per cent DDT, is a more tax-efficient option.
But, unlike bank FDs, the returns under debt funds are not assured. Their performance is dependent upon interest rate movements. Liquid plus funds offer higher returns but are riskier than cash funds.
Of late, the returns of liquid plus funds have dropped because of investors shifting to them from cash funds. With new money flowing in, the prices of bonds have fallen, causing returns of these funds to come down.
Moreover, in the near future, the returns of income funds are unlikely to be as attractive as in the past. They should not be expected to deliver better than bank FDs. However, their tax efficiency will continue to be a reason for their preference.
You could also look for dynamic bond funds that have flexible portfolio maturities and can generate better returns, depending on the market conditions. But these will also be more risky. Birla Sun Life Dynamic Bond and Kotak Flexi Debt are good picks.
In the new Sebi regulations, an AMC can charge a maximum 1 per cent exit load at the time of redemption. Sebi says this exit load will be applicable for any redemption made after August 1. However, any customer who has invested in MFs before August 1 has already paid an entry load of 2.25 per cent, and if he redeems his units after this date, and is charged 1 per cent exit load, then it will be unfair. It amounts to 3.25 per cent. Is this not so?
-Akshat Gupta
Your interpretation of the new Sebi ruling is wrong. Current regulations allow schemes to charge a maximum of 7 per cent in loads (entry/exit), while keeping the difference between sale price and repurchase price within 7 per cent of the sale price. Under the new regulations, funds will not be able to charge any entry load, but exit load can go up to 7 per cent. The restriction on exit load is regarding the part that can go towards distributor commissions. It has been mandated that out of the exit load charged under any scheme, except for a maximum of 1 per cent, the redemption proceeds can be maintained by the AMC in a separate account and be used to pay commissions to the distributors. Any extra exit load has to be credited to the scheme's assets immediately.
Further, all investments in mutual funds are subject to the load structure applicable at the time of investment and any revisions of the load structure are applicable to prospective investors only. This holds true not only in this case, but also when the fund house voluntarily makes any change in the load structure.
Value Research
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