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As interest rates on fixed deposits are trending down, here are a few alternatives to get extra returns. However, whenever an asset gives or claims to give higher returns than bank deposits or government securities, it comes with associated risks.
Debt funds invest in bonds. These bonds can be issued by the government or by corporate firms. Since bond funds are combination of corporate as well as government bonds, they offer slightly better returns than fixed deposits. Investors can look at debt funds as a viable alternative model.
As regards the taxation aspect, there is short term capital gains tax liability if the fund units are redeemed within three years of their purchase. Long term capital gains tax is applicable when the units are sold after three years. In case of short term gains, the gain will be added to your income and taxed as per your income tax bracket. For long term capital gains, there is a flat tax rate of 20% with 3% cess with indexation benefit, which further helps in reducing tax liability in long-term investing.
This twin advantage of higher return over FD and tax efficiency makes investing in debt funds a better option. Investors can expect an effective return of 7-10% from debt funds.
Corporate bonds are a little riskier than government bonds, hence the returns are higher. Investors can directly invest in bonds offered by large companies. The risk is that the company may not fulfil its obligation to pay the investor back in case of any business crises. To minimise the risk of default, investors should study the rating of the bond in question. Every bond offering has to mandatorily undergo a rating process. A rating agency provides a rating for the bond after evaluation of the project’s or company’s financial viability.
Usually, a highly rated bond yields lower returns and vice versa. The returns from corporate bonds can vary widely, and can be as low as 7% or as high as 15%.
Equity Linked Saving Schemes
These are tax-efficient mutual funds where investors can invest and claim up to R1.5 lakh of income tax exemption under Section 80C. ELSS funds have a lock-in period of three years. Since this amount is exempted from taxation, the returns are significant. Since ELSS is an equity fund, it is riskier compared to bond funds or corporate bonds. However, the advantage is the tax saving it offers. This makes ELSS an attractive alternative to deposits.
The writer is CEO, BankBazaar.com