Fixed Maturity Plans vs Fixed Deposits

FMP

Fixed Maturity Plans (FMPs) are closed-end debt funds having a fixed maturity period.

Unlike other open-end debt funds, FMPs are not available for subscription on a continuous basis.

A fund house comes out with a New Fund Offer (NFO) for a specific duration. NFO will have an opening date and a closing date. Upon expiry of the closing date, the offer to invest ceases to exist. The offer document indicates the instruments in which the fund proposes to invest as well as floor & ceiling within 5% range of the intended allocation.

FMPs usually invest in debt instruments like Treasury Bills, Commercial Papers, Certificate of Deposits, Government Bonds, Corporate Bonds, and Bank Fixed Deposits.

Based on the duration of the scheme, fund manager allocates the money in instruments of similar maturity. Unlike other debt funds, the fund manager of FMP follows a buy and hold strategy. There is no frequent buying and selling of debt securities like other open-end debt funds. This helps keep the expense ratio of FMPs at lower level vis-à-vis other debt funds. (average expense ratios are around 0.4%)

FMPs and FDs have lot of similarities between them. Both require you to stay invested for a fixed duration. Both of them are available in varying maturities to suit your convenience.

However there is a difference when it comes to returns perspective. FDs offer a guaranteed return while FMPs show an indicative return. It means that the return offered by FMPs is not assured but only indicative in nature. There is a chance of actual returns being higher or lower than the returns indicated.

Fixed Deposits Fixed Maturity Plans
Returns Guaranteed returns Indicative returns
Maturity Varying maturity periods Varying maturity periods
Liquidity Ease of premature redemption, higher liquidity Restricted liquidity
Tax Efficiency Interest income is added to your annual income and taxed as per the applicable slab. FMP Dividend – a Dividend Distribution tax is levied

FMP Growth – Capital gains tax apply

Tax Efficiency:

One can avail indexation benefit on capital gains if FMPs are held for more than three years. Indexation benefit is not available for Fixed deposits. Thus FMPs become more tax efficient if held for more than three years.  FMPs are suitable vehicles for investors who fall in the higher income slabs.

Most FMP NFOs offered during the month have a tenor of 37 months and beyond. So the maturity typically extends to FY 2021-2022. Thus inflation index pertaining to FY 2021-2022 is reckoned for calculating cost of acquisition. Even if one assumes an average cost inflation index of 4% per annum for next 4 years, indexation benefit of 16% will be available for the investor. If inflation indexation for next four years is an average of 5% per annum, then cost of acquisition is 20% higher and one may end up  paying only a nominal amount as capital gains  tax on the income earned.

Look for the investment objective of the scheme, indicative yield and investment strategy. Once you are in sync with these, invest an amount that you can leave invested for three years or more to reap the benefits of tax efficient returns.

 Illustration:

FMP Vs FD

 

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