Deciding where to invest your hard-earned money is an important decision for everyone, from young professionals to retirees. When it comes to investments, Systematic Investment Plans (SIPs) and Fixed Deposits (FDs) are both popular choices, but they cater to different types of investors with their unique features and benefits.
This blog talks about the intricacies of SIP vs Fixed Deposit, helping you understand which might be the better option for your financial goals.
SIPs & how they work
A Systematic Investment Plan (SIP) is a way to invest in mutual funds. It allows you to invest a fixed amount regularly, say monthly or quarterly, into a mutual fund of your choice.
Flexibility & affordability :
Starting a SIP can be as low as Rs.500 per month, making it accessible to everyone.
Power of compounding:
Regular investments in SIPs harness the power of compounding, which can increase your returns over a long period.
Reduced market timing risk:
With SIPs, investors benefit from the rupee cost averaging, which reduces the risk of bad timing in the market.
Fixed deposits & how they work
Fixed Deposits are one of the most traditional and safest investment options available in India. When you open an FD, you invest a lump sum amount for a fixed period at an agreed Fixed Deposit Interest Rate.
Guaranteed returns:
The interest rate is fixed, so you know exactly how much you will get at maturity.
Safety:
FDs are considered very safe as they are unaffected by market volatility.
Ease of investment:
Opening an FD is easy, with minimal and only the basic Fixed Deposit Documents Required.
Understanding the Fixed Deposit Eligibility Criteria and any associated fees is important before making an investment. Generally, any Indian citizen can open an FD. Some banks, like Kotak, offer FDs for NRIs too. There may be additional Fixed Deposit Fee and Charges if you withdraw your FD prematurely.
Must Read: Top 5 Investment Options
Choosing between sip and fd based on your financial objectives
Deciding whether to invest in a Systematic Investment Plan (SIP) or a Fixed Deposit (FD) is based on what you aim to achieve financially and when you need access to your funds.
Short term vs long term goals:
FDs are more suited for short-term objectives (1-5 years), due to their stability and guaranteed returns. SIPs, on the other hand, are better for long-term aspirations (5 years or more), benefiting from the potential higher returns of equity markets over time.
Risk tolerance:
SIPs are linked to market performance and are suited for investors who are comfortable with some level of risk. Alternatively, FDs are ideal for those who prefer a no-risk investment, offering fixed returns.
Liquidity needs:
FDs can typically be liquidated quickly, even though sometimes with a penalty, making them a good option for those who may need sudden access to their funds. SIPs, in contrast, are less liquid, especially if invested in equity funds, where it is advisable to stay invested for the complete term to gain maximum returns.
Financial planning flexibility:
SIPs offer the flexibility to adjust the investment amount or to stop the investment plan without any large penalties. This makes SIPs adaptable to changes in your financial situation. FDs, while offering security, do not provide the same level of flexibility since the deposit amount is fixed at the time of investment.
Assessing returns and risk between sip vs fd
When considering whether to invest in a Systematic Investment Plan (SIP) or a Fixed Deposit (FD), it's important to consider both the potential returns and the associated risks.
Potential for higher returns:
Generally, SIPs can offer higher returns than FDs, as they are linked to the stock markets, which historically outperform other investment forms over the long term.
Risk factors:
The risk associated with SIPs is higher, due to their exposure to volatile market conditions. FDs, on the other hand, provide stable and predictable returns, as they are not directly tied to market fluctuations.
Market dependence:
The returns on SIPs are dependent on market performance, which can provide gains during high performing markets but also suffer during market downturns. FDs remain unaffected by market conditions, offering fixed returns irrespective of economic changes.
Security of capital:
FDs are often preferred by those looking for security of their capital, as they are considered one of the safest investment options, with fixed returns and principal protection. SIPs, while offering the potential for higher growth, also come with the risk of capital loss in volatile market conditions.
Must Read: What Is Fixed Deposits For Senior Citizens
Which is better for tax saving?
Tax considerations are a key aspect when choosing between a Systematic Investment Plan (SIP) and a Fixed Deposit (FD), as they can impact your net returns.
Tax on returns:
The interest income from FDs is added to your total income and taxed according to your income tax slab. On the other hand, equity-linked SIPs can provide tax benefits under Section 80C of the Income Tax Act, lowering your taxable income.
Indexation benefit:
For debt fund SIPs, long-term capital gains (holding period of more than three years) are subject to taxation with the benefit of indexation, which adjusts the purchase price for inflation and effectively reduces the tax on gains.
Capital gains tax on SIPs :
Equity SIPs held for more than one year qualify for long-term capital gains tax, which is lower than the short-term gains tax and only applicable on gains exceeding Rs. 1 lakh.
TDS considerations:
Fixed Deposits attract TDS (Tax Deducted at Source) if the interest income from all your FDs at a bank exceeds Rs. 40,000 (Rs. 50,000 for senior citizens) in a financial year, which could affect your cash flow if not planned properly.
SIP vs Fixed Deposit, as you might’ve understood by now, isn't about finding a one-size-fits-all answer but choosing the right tool based on your financial situation, goals, risk tolerance, and investment horizon.
Fixed deposit faqs
1. Are there any risks involved with FDs?
FDs are among the safest investment options, with minimal risk since they are not subject to market fluctuations.
2. Can I break my FD before the maturity date?
Yes, but doing so may have to take a penalty and it also affects the interest earned.
3. How do SIP returns compare to FD returns under fluctuating market conditions?
SIP returns can vary largely due to market conditions, often offering higher returns than FDs over the long term.
4. Which is a better option for an emergency fund?
FDs are more suitable for an emergency fund as they provide immediate liquidity, unlike SIPs where withdrawal might take time depending on the fund type.
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This Article is for information purposes only. The views expressed in this Article do not necessarily constitute the views of Kotak Mahindra Bank Ltd. (“Bank”) or its employees. Bank makes no warranty of any kind with respect to the completeness or accuracy of the material and articles contained in this Newsletter. The information contained in this Article is sourced from empanelled external experts for the benefit of the customers and it does not constitute legal advice from Kotak. Kotak, its directors, employees, and contributors shall not be responsible or liable for any damage or loss resulting from or arising due to reliance on or use of any information contained herein.
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