ADVANTAGES of LIQUID FUNDS
I was curious to see how much exactly does one gain by investing in Liquid Funds as compared to short term fixed deposits. I studied the past performance of about 7 to 8 Liquid Funds (all of them were at least 5 years old and none of them had given negative returns in any single quarters - so safe sound funds only !). Below is a rough graph of the average (annualised) gains given by Liquid funds over time. I have also plotted (red line) approximate values of past values of Inflation.
The X-axis as you can see is slightly off. where it says 2007, it should be between first and second quarter of 2008.
As you can see over the past five years, Liquid Funds have given annual returns somewhere between 4% to 8%. By looking at the above graph and by my vague memory, I think the annual returns given by Liquid Funds is more or less comparable to the returns given by short term fixed deposits. Nowadays short term fixed deposits give around 6% to 8% interest, the Liquid Funds are giving something in between 6% to 8%, back in 2004, both these figures were around 4-5% and so on. So what is exactly the advantage of investing in Liquid Funds? The key point is Tax Advantage. This is most useful if your taxable income is in the topmost or 30% bracket. On dividends you get from Liquid Funds, you do not have to pay any tax ! While on the interest earned on short term fixed deposits you will have to pay upto 33% of income tax ! Note however, the Liquid Funds themselves do pay Dividend Distribution Tax (currently around 25%) but the above returns I have plotted are your net non-taxable returns !.
Let us take an example. Suppose you invest Rs. 1,000,000 for 6 months in LIC MF Liquid Fund, which has no entry or exit load and when Liquid Funds are giving around 6% of annual returns. Your total dividend yield will be Rs.30,000. This will be non-taxable. While if you invest in a short term fixed deposit, let say which is also giving around 6% annual interest, you will also recieve Rs. 30,000 but by 33% rate you will have to pay Rs. 9,000/- income tax. So your actual gain will only be Rs.21,000.
Moreover there are other advantages of investing in Liquid Funds.
The X-axis as you can see is slightly off. where it says 2007, it should be between first and second quarter of 2008.As you can see over the past five years, Liquid Funds have given annual returns somewhere between 4% to 8%. By looking at the above graph and by my vague memory, I think the annual returns given by Liquid Funds is more or less comparable to the returns given by short term fixed deposits. Nowadays short term fixed deposits give around 6% to 8% interest, the Liquid Funds are giving something in between 6% to 8%, back in 2004, both these figures were around 4-5% and so on. So what is exactly the advantage of investing in Liquid Funds? The key point is Tax Advantage. This is most useful if your taxable income is in the topmost or 30% bracket. On dividends you get from Liquid Funds, you do not have to pay any tax ! While on the interest earned on short term fixed deposits you will have to pay upto 33% of income tax ! Note however, the Liquid Funds themselves do pay Dividend Distribution Tax (currently around 25%) but the above returns I have plotted are your net non-taxable returns !.
Let us take an example. Suppose you invest Rs. 1,000,000 for 6 months in LIC MF Liquid Fund, which has no entry or exit load and when Liquid Funds are giving around 6% of annual returns. Your total dividend yield will be Rs.30,000. This will be non-taxable. While if you invest in a short term fixed deposit, let say which is also giving around 6% annual interest, you will also recieve Rs. 30,000 but by 33% rate you will have to pay Rs. 9,000/- income tax. So your actual gain will only be Rs.21,000.
Moreover there are other advantages of investing in Liquid Funds.
- You can withdraw your money more easily without penalty as compared to short term fixed deposits.
- Usually Liquid Funds (or rather good liquid funds) give more returns than interest on fixed deposits. (this is however not something you can bet your money on).
HDFC LIQUID FUND (G)
BOB LIQUID FUND (G)
CANARA ROBECO LIQUID FUND(G)
DBS CHOLA LIQUID FUND – REGULAR (G)
ING LIQUID FUND (G)
LIC MF LIQUID FUND (G)
TATA LIQUID FUND (G)
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