Two of the best mutual fund categories for retirees are liquid mutual funds and short term debt funds. These are tax-efficient, safe and practically liquid
In retirement, managing money is quite a challenge. You need to keep your retirement fund safe, manage with conservative returns, and use your money judiciously. If you have managed to create a handsome retirement fund, you’d be inundated with ideas on how to manage it—annuity plans, senior citizen schemes, post office schemes, equity, and what not. Here, we look at managing your retirement fund via mutual funds and explain why they’re tax-efficient, safe, and practically liquid.
‘Safe’ funds for retirees
In retirement, safety of funds is of prime importance. Keeping this in mind, two of the best mutual fund categories you can consider are liquid mutual funds or short-term debt funds. Liquid mutual funds and short-term debt mutual funds invest your money in money market instruments, certificates of deposits, treasury bills, commercial papers, fixed deposits and corporate debt. In liquid funds, the underlying securities typically have a maturity period of 91 days. Short-term funds also have securities with maturity periods ranging between six months and four years. Liquid mutual funds are the safest fund category.
Funds for risk takers
Normally, debt mutual funds are suited for short-term investing. For the long-term, equity investing is advised for best returns. Keeping in mind a retired person’s need to be conservative, it’s not advisable to go all-in into an equity fund with your retirement fund. However, you could consider diversification. This you can achieve by investing a small part of your fund into a large-cap equity fund. If you’re averse to lump-sum equity investing, consider an STP – Systematic Transfer Plan. Essentially, pick a liquid fund to park your money, and then transfer small amounts from it every month into an equity fund. This would keep your overall corpus safe as you start earning equity-linked returns bit by bit from your equity fund which would get bigger with time.
Redemption is easy
Many retirement schemes are dogged with lock-ins and limits on withdrawals. You have no such problem with mutual funds. You can invest, switch, transfer, or withdraw at any point. Barring tax-saving funds which have a lock-in of three years, all other funds can be liquidated at a moment’s notice. Remember to ascertain exit loads before you liquidate.
Mutual fund investments are tax-efficient compared to most other avenues. Long-term capital gains on equity funds are 100% tax-free. Long-term capital gains on debt funds are taxed at 20.6% with indexation benefit, which provides long-term savings for you. Let’s understand this with an example. Let’s say you invested Rs 1,00,000 in a fixed deposit at 8% for five years in 2011-12. You also invested Rs 1,00,000 in a liquid mutual fund with a CAGR of 8% for five years, also in 2011-12. Let’s also assume you’re in the 30% bracket. After five years, your FD returns would effectively be 5.6% (after 30% taxation). And your deposit would effectively be worth Rs 1,31,316 after five years. In comparison, the debt fund would be at Rs 1,46,932.80 after five years when you withdraw it. With indexation benefit, you can find the inflation-adjusted value of your purchase with the formula (Cost Inflation Index for the year of sale/CII for the year of purchase) X (Cost of purchase). The CII index for 2011-12 and 2016-17 are 184 and 264 respectively. Therefore your indexed cost of purchase (264/184) X 100,000 = Rs 1,43,478. Your LTCG is (Rs 1,46,932.80 – Rs 1,43,478) = Rs 3453. On this, your LTCG tax at 20.6% is just Rs 711. This compares favourably to the nearly Rs 16,000 you had to pay as taxes on your FD.
The writer is CEO, BankBazaar.com