Best Investment to lose your Capital while planning for retirement

The money we earn could be used to buy things that we need today. Nonetheless, we chose to invest, by reasoning that we would rather use this purchasing power some other time in the future. In this manner, the money that we saved will become our capital. Since that we exercised the option of saving for future, we should be earning enough on the saved capital, to consume more than what we intended to consume now.

Invested capital is essentially trying to protect not your currency notes or bank balance, but the ability of money to buy something for you. Basically, you are trying to protect the purchasing power of your money in the name of capital protection.

What is the biggest risk to capital?

It is the rise in prices, also referred to as inflation. When we say protection of capital, we presume our saving is growing at least in line with the inflation. If the rate of growth (investment returns) of the saved money (capital) is less than the increase in household expenses, then we are simply destroying the capital.

Which investment option surely and certainly destroys our capital?

Well, the first choice of Indian investors is a financial asset called fixed deposits (FDs).

Simple illustration- Suppose you have Rs 1 lakh and you want to spend this money on buying a TV or a refrigerator or on a holiday package. Instead of splurging on these items, you invest the money in fixed deposits for a period of three years.

After three years, your capital has grown from Rs 1 lakh to say Rs 1.21 lakh (annual growth of 7 %). But during the same time period, prices of these three products/services went up by 10 % per year and these now cost Rs 1.30 lakh.

In short, FDs have destroyed your capital. This illustration is from a short-term perspective.

How safe is your Bank FD as a retirement corpus?

Now, imagine the impact of the same thing over your life span. Assume you start earning at the age of 30 Years; and regularly save and invest 33% of your income in the safe heaven Bank FD. The return you generate would at max keep in line with inflation, so logically speaking your two years of saving would take care of 1 year of expenses; so assume you work till 60 years (so you work for 30 years) and when you retire your safe heaven can at max take care of your expenses for 15 years and you will run out of your retirement fund.

Just introspect,

·         Have you started saving from the age of 30

·         Have you kept aside at least 25% of your income as savings since 30 years

·         are you intending to work till 60 and is your job secured till 60 Years

·         Have you deployed your savings to create capital

If your answer is yes for all the above highlighted points, then you can be sure you would retire comfortably; otherwise you need to seriously think of a proper plan.

Bank FD’s are like banyan tree; As banyan tree does not allow any vegetation to thrive below it, FD’s will not allow your capital to grow. So think before investing.

Retirement planning is no more an option, it’s a necessity.For any Investment Planning feel free to get in touch with me on 0965-65708812 /91-9845366753

Mutual Fund’s Monthly Income Plan : An overview

Mutual funds are traditionally classified by the investment asset class they own. Mutual funds which own only stocks (Equity) are called Equity mutual fund. Mutual funds which own only bonds are called bond fund. Mutual funds which own both bonds and stocks are called hybrid fund.

Mutual fund’s Monthly Income plan (“MIP”) is a hybrid Mutual fund which invests in both equity and bond. Typical MIP invests 80-85% in Bond and 15-20% in Equity.

Benefits of investing in Monthly Income Plan Mutual Fund:

• MIP provides stability (from significant bond component) and strives for capital appreciation (from smaller equity component)
• MIP offers automatic rebalancing- Assume equity is growing faster than the bond then weight of equity crosses 15%-20%(prescribed limit); then fund manager would book profit from equity and invest the same in bond
• MIP generates better return than the bank FD or bond fund due to presence of smaller equity component
• MIP fund investment strategy aims at income generation (in terms of Coupon from bond investment and dividend from Equity component)

Potential return and tax effect:

• MIP over last 5 years have generated a CAGR return of 10-12%; the realistic long term expectation going forward could be close to 9-10%.
• MIP are treated as bond fund from tax perspective. Short term capital gain tax at respective income tax slab would be applicable if redeemed (withdrawn) within 3 year and long term capital gain tax of 10% without indexation (or 20% with indexation) is applicable  if redeemed (withdrawn) after 3 year

Potential risk

• MIP invests 80-85% in bonds which is subjected to interest rate volatility and remaining 15-20% in equity which would be deployed mainly into Large Caps; MIP is suitable for conservative (risk averse) investor.

Conclusion: 

MIP is a debt oriented hybrid fund with small exposure to equity and can generate a realistic return of 9-10% (under current circumstances). MIP is a very good alternative for Bank FD as it provides higher after tax return, provides better liquidity and flexibility. A significant corpus in MIP at the time of retirement can provide better monthly after tax retirement cash flow compared to an equivalent corpus in Bank FD.

For any investment related queries/advise feel free to get in touch with me on 0965-65708812/91-9500151529

Balanced Mutual Fund: An overview

Mutual funds are traditionally classified by the investment asset class they own. Mutual funds which own only stocks (Equity) are called Equity mutual fund. Mutual funds which own only bonds are called bond fund. Mutual funds which own both bonds and stocks are called hybrid fund.

Balanced Mutual fund is a hybrid Mutual fund which invests in both equity and bond. Typical Balanced fund invests 65% in stocks and 35% in bond.

Benefits of investing in Balanced Fund:

•     Balanced fund provides twin benefit of growth (from equity component) and stability (from debt component)
•   Balanced fund offers automatic re balancing- Assume equity is growing faster than the bond then weight of equity crosses 65%(prescribed limit); then fund manager would book profit from equity and invest the same in bond
•  Balanced fund offers lower volatility compared to an equity funds
•  Balance fund offers better liquidity and more tax efficient than the bond funds

Potential return and tax effect:

•  Balanced fund over last 5 years have generated a CAGR return of 15-16%; the realistic long term expectation going forward could be close to 12%.
•  Balanced fund are treated as equity fund from tax perspective. Short term capital gain tax of 15% is applicable if redeemed (withdrawn) within 1 year and long term capital gain tax of 0% is applicable  if redeemed (withdrawn) after 1 year

Potential risk

• Balanced fund invests 65% in equities which is subjected to market volatility and hence the fund return would be more volatile compared to a bond fund/bank FD

Conclusion: Balanced fund offers automatic re balancing which allows your investment portfolio to be more balanced in different market conditions.  Balance fund offers good return, provides diversification benefit, offers flexibility and are tax efficient (long term capital gain is zero percent).Balanced fund comes handy in portfolio building and is a good option for first time equity investors.

For any investment related queries/advise feel free to get in touch with me; you can reach me on 0965-65708812/91-9500151529

Bank FD vs Bond Mutual Fund: Taxation

Bank FD & Bond Fund both are fixed income securities. The most ignored part while investing in fixed income securities is the effect of taxation. The blog highlights the differences

Tax Effect on Bank FD

Taxes are paid on accrued interest and payable as per the individual tax brackets.

Ex Mr X invest Rs 10 Lac in a bank FD yielding an interest rate of 6%; Mr X is in a 30% tax bracket; then Mr X has to pay an average tax of Rs 18,000/Annum. The effect of tax over 5 year is as shown below

	Year 1	Year 2	Year 3	Year 4	Year 5	Total
Interest Income	60,000	60,000	60,000	60,000	60,000	3,00,000
Tax Effect	Income	Income	Income	Income	Income
Tax Payable rate	30%	30%	30%	30%	30%
Tax Payable	(18,000)	(18,000)	(18,000)	(18,000)	(18,000)	(90,000)
After Tax Interest Income	42,000	42,000	42,000	42,000	42,000	2,10,000

Tax Effect on Bond Mutual Fund:

Taxes are paid only on redemption/withdrawal and the rates depend on the nature of gain. For Bond fund any redemption within three years is considered as short term capital gain (taxed at applicable individual tax bracket) and redemption after 3 years is considered as long term capital gain (taxed at 20% adjusted for indexation benefit- works out close to 10%)

Ex Mr X invest Rs 10 Lac in a bond mutual fund and decides to withdraw 6% income on yearly basis (to match Bank FD Cash flow) ; Mr X falls in a 30% tax bracket; then Mr X has to pay an average tax of Rs 1,730/Annum. (91% lower than bank FD)

	Year 1	Year 2	Year 3	Year 4	Year 5	Total
Withdrawal	60,000	60,000	60,000	60,000	60,000	3,00,000
Capital Gain (at 6% return)	3,396	6,600	9,623	12,474	15,165
Tax Effect	STCG	STCG	STCG	LTCG	LTCG
Tax Payable rate	30%	30%	30%	10%	10%
Tax Payable	(1,020)	(1,980)	(2,887)	(1,247)	(1,516)	(8,650)
After Tax Interest Income	58,980	58,020	57,113	58,753	58,484	2,91,350

 *STCG-Short term capital gain; LTCG- Long term capital gain

Conclusion: Bond Mutual fund taxes are applicable only on redemption while on bank FD’s taxes are applicable on accrued interest; Bank FD taxes would be 10 times higher than that of bond mutual fund. Bond Mutual fund provides higher return, offers better liquidity and most efficient in terms of taxes compared to Bank FD.

Bond/Debt Mutual Fund: An Overview

Bond/Debt mutual funds are funds that invest in instruments such as Treasury bill & Treasury bond (issued by Government), Certificate of Deposit (issued by Banks), and Commercial Paper & Bonds (issued by corporate).

Categories of Debt Mutual fund

Category	Suitable for
Liquid fund Money Market funds Ultra Short term fund	Invest primarily in short term securities like certificate of deposit, Commercial paper, Treasury bill. Weighted average maturity of the fund would be less than 1 year. Often used as alternative to a savings bank account and can be used to park one’s surplus cash.
Short term Fund Medium term fund	Invest primarily in corporate bonds with tenor (maturity) of 1-5 years. Often used to generate return better than an comparable Bank FD and suitable for investors with investment Horizon of 1-5 year period
Long term Fund Income fund	Invest primarily in corporate bonds with tenor (maturity) greater than 5 years. Often used to generate return better than an comparable Bank FD and suitable for investors with longer investment horizon
Gilt funds	Invest primarily in Government securities; Gilt funds can be again classified as short term gilt fund (tenor less than 5 Years) and long term gilt fund (tenor greater than 5 year). Gilt fund have minimal credit risk but would be exposed to interest risk

Bank FD vs Bond/Debt Mutual Fund

Particulars	Bank Fixed Deposit	Bond/Debt Mutual Fund
Return	Fixed	Variable
Potential Return (>1 Year)	7-8%	9-10%
Maturity Period	Fixed period	·         Open ended schemes allows to redeem anytime ·         Closed ended schemes have fixed maturity
Pre closure	Pre closure penalty of 0.5-2%	·         Exit load might be applicable if exited within 1 year and can range from 0.5-1% for Medium/long term bonds. ·         No load when held for more than 1 year for medium/long term bonds ·         No load on liquid/ultra  short term bonds regardless of holding period
Partial withdrawal	Not allowed	allowed
Taxable	Yes	Yes
Taxable Impact	High	Low
Tax efficiency	Low	High

Conclusion: Bond/Debt Mutual Fund provides better return than equivalent bank FD with marginally higher risk; Bond/Debt Mutual fund provides lot of flexibility when it comes to liquidity and more tax efficient compared to a bank FD. So would advise to seriously consider Debt Mutual fund as an alternative to Bank FD.

For any investment related queries feel free to get in touch on 0965-65708812