Category: Fixed Income

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Demystifying Debt Mutual Funds

Posted on by Ram Hegde

Debt MF’s invest your money in Commercial papers, NCD’s, CD’s and other market securities. It is like someone investing in Fixed instruments/FD on behalf of you. By definition debt MF’s are designed to provide regular income generation in a relatively more stable manner as compared to equity-oriented funds when you choose correct MF’s fitting your Risk Profile

Debt MF’s are tax efficient as compared to bank FD’s. When held over 3 years or more they have indexation benefits. The overall tax that you would pay for the debt MF will be less than the bank FD’s.The returns in Debt Mf’s can be much higher than the bank FD when chosen correctly.

Unlike Equity MF’s debt MF’s are complex and there are about 16 categories of Debt MF’s of varying themes, maturity duration and risks The, returns offered by the debt MF’s vary mainly depending on type & duration of Mutual funds

You may notice out of the sixteen debt fund categories, only Corporate Bond & Credit Risk Funds have a mandate on credit rating [Quality of MF investments]. In corporate bond funds, more than 80 per cent of the portfolio has to be invested in securities rated AA+ / AAA & for credit risk funds, 65 per cent or more has to be in less quality papers i.e rated AA and below. All other debt fund categories, it is open to what is mentioned in the AMC scheme documents , namely Scheme Information Document (SID) and the AMC fund manager’s decision.

Debt Mutual funds are subjected to multiple risks such as Credit ,Interest & on few occasions Liquidity Risks.Any default or change in in the underlying investment rating affects the performance of the MF. Change in Repo rates by RBI [typically once in a quarter] impacts the MF returns.At times due to abnormal outflow in a MF leads to Liquidity crisis ( Recent Franklin issue) as the AMC will find it difficult to sell the underlying low rated papers.

Many of the ratings on popular sites tend to give more importance to the past performance & less value to the underlying quality of investments.These ratings are very generic & it is important to choose a mutual fund that fits your Goals, Risk profile & Investment duration.Choosing solely based on past Performance & Ratings may not be a wise decision in a long run

If you are interested to know suitability of a debt MF to your investment portfolio or require in depth review of your portfolio or require any services of a Financial Advisor to do feel free to contact us @

www.nawanidhi.com |  nawanidhif@gmail.com or info@nawanidhi.com

9820418134 | 9845818270

Term Insurance v/s Endowment Plan

Posted on by Ram Hegde

Majority of the people in India take Endowment plans mainly due to the lack of their knowledge or they are trapped by the agents with promise of “guaranteed return”.

Endowment plan is one of the most mis sold product. It is generally sold in multiple “emotional” forms such as children education, retirement, tax saving investment, money back plan, dual benefit plan etc. You will seldom come across an agent selling you a term plan.

  Term Insurance

Endowment


1.Protection offered till
what period?

Limited period as per your policy term
Limited period as per your policy

2.Do you receive money after
maturity?
 No
Yes


3.Is it an investment ?


No, Only life cover
Yes


4.Premium Amount


Less expensive
More Expensive


5.Premium paid for an Insurance cover of Rs.1 Crore by a 30 Year
old for 30 years period


Insurance is cheap. A non-smoker man needs to pay about Rs.9500 annually


Insurance component is very
expensive. He needs to invest of around Rs.1 lakh annually



6.Insurance for about Rs.20,000
premium paid annually by a 30 Year old, 30 years period




You can get sum assured of about Rs 2 crore+




You can ONLY get a sum assured of around Rs.16 lakh





7.Is it linked to market returns?


No

Yes, ULIP’s


8.Any bonus offered?


No

Yes. Varies across companies


9.Surrender Value



No



Yes. Depends after how many years after the policy is surrendered.


10.Section 80C tax benefit on the premium paid


Yes


Yes


11.Is the return taxable?


Not applicable


Yes, 1/3 of lumpsum received is not taxable

12.Are the returns good?



NA, no returns are offered




Effective returns are low, typically 5% to 6.5%


Both term plans and endowment plans offer multiple rider options. Though you will have to pay extra premiums to buy these extras, the benefits offered by them are good.  There are some riders that are available only with term plans, while some are available only with endowment plans. Some of the extras include critical illness rider, accidental death benefit rider, hospital cash rider, premium waiver rider etc. Life insurance plans are good tax-saving instruments. All the premiums you pay under a term plan are exempt from income tax deductions as per section 80C. The sum assured you receive are non-taxable under section 10(10D) of the income tax Act, 1961. Therefore, income tax exemptions are higher in endowment plans as compared to term plans.

Recommendation:

If your family is financially dependent on you, it becomes mandatory for you to have a term insurance plan. This is because in an event of death of the breadwinner of the family, the nominee will receive large sum assured depending on the chosen plan. Whereas in case of endowment/money back plan your dependents will receive only about 10 times the annual premium paid by you.

If your aim is wealth creation, then avoid endowment plans at all costs and stick to investments in Mutual Funds & Equity with option to enter & exit at your will. If you are a conservative investor you can explore options such as PPF, VPF & Sukanya Samriddhi Yojana (if you have girl child) etc in addition to a term insurance.

Disclaimer: The views and opinions expressed in this article are those of the authors and do not necessarily reflect the official policy or position of any agency. Consult your trusted financial adviser for further details.

Interest earned in your Employee Provident Fund (EPF) account is taxable, when there is no further EPF contribution (e.g Post Retirement or after leaving your job or self-employment)

Posted on by Ram Hegde

Majority of salaried individuals contribute 12% of their salary to Employee Provident Fund (EPF) account, and their employer matches their contribution. In addition, employees can voluntarily contribute up to 100% of their basic salary to the same EPF Account using VPF route. The overall contributions made to EPF account compounds, at a rate declared by the Employees’ Provident Fund Organization (EPFO) every year and this can be substantial amount for some.

Some of those who are just retired on attaining age of 58 years or those who are not working now or taken up employment with no EPF contribution/benefits , may not always withdraw the accumulated amount from the EPF account immediately. There can be various reasons why people do so, one such reason is EPF is safer than a bank & also on most occasions earns higher interest rates (8.65% for FY 18-19)

However, this amount remains a liability for the EPF Organization towards the account holder. To discourage provident fund subscribers from neglecting their EPF accounts, especially the ones in which no contributions are being made at all, in 2011 the EPFO stopped paying interest on accounts that had been inoperative for more than three years, or 36 months. But in 2016, the rule changed and the EPFO said that inoperative accounts will also earn interest till the account holder turns 58. But after the retirement of the account holder, the EPFO will not pay interest as the account becomes inoperative. However, there was an ambiguity about the taxability on interest earned on EPF balance post retirement.

In this context, a few years ago, a case was filed by Dileep Ranjekar (Ex.Wipro employee) at Income Tax Appellate Tribunal, Bangalore. Ranjekar  didn’t withdraw his EPF corpus for about nine years after retirement. Believing that the EPF corpus is tax free on withdrawal. He also reportedly did not declare it in his income tax return or pay any tax in the year he withdrew the funds or anytime after his retirement.

However, after scrutiny of his ITR by income tax department, the interest earned on entire EPF corpus after his retirement was added to his income by assessing officer, and Ranjekar was asked to pay tax on the whole amount. Ranjekar filed an appeal against the order with commissioner of income tax, and reportedly got the result in his favor. However, the I-T department escalated the matter and filed an appeal with the IT tribunal. In its decision, tribunal stated that interest earned before retirement will not get taxed irrespective of when it is withdrawn after retirement, but any interest earned post retirement will be taxable in the hands of the account holder. This is because the exemption is available only to an employee. Once an individual leaves their job or retires, he or she does not remain an employee; hence, any interest earned during this period attracts tax.

If you plan to retain the EPF corpus, when there is no contribution to the EPF account or on attaining 58 years, you should start including such interest under “income from other sources” in the ITR. This way you may pay tax as per the prevailing year’s tax slab instead of likely maximum tax slab later.