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Which is more beneficial- Equity or debt mutual fund investment?

  • Marisha Bhatt
  • Jan 12 2022
  • 6 minutes
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Investment in mutual funds has attracted millions of investors over the decades. Over the past year, there has been a record increase in the volume of mutual fund investments and it is only going to increase. While we talk about mutual funds, not many investors still know what it really means and where they should invest in mutual funds. 

Mutual funds broadly invest in two main types of securities namely equity instruments and debt instruments. The assets they invest in are also the basis of their classification.

Let us now understand what equity and debt mutual funds are and where investors should invest their funds.

What are equity mutual funds?

Equity mutual funds are the funds that predominantly invest in equity and equity related securities of various companies. The primary goal of investment in these funds is to earn dividend income and maximize the investor’s wealth over a period of time. These funds are considered to be riskier but have the potential to generate high returns for the investors. There are various options of equity funds for the investors to choose from depending on their investment objective like large cap funds, mid cap funds, small cap funds, ELSS funds, etc.

What are debt mutual funds?

Debt mutual funds on the other hand are funds that predominantly invest in debt and debt related securities. These funds invest in corporate bonds, government bonds, commercial papers, money market instruments, and other similar securities that have a fixed tenure and can generate regular interest income for their investors.

 Debt funds are considered to be less risky than equity funds and the returns generated by these funds are lower as compared to equity funds. The various types of debt funds available to investors include gilt funds, corporate bond funds, credit risk funds, fixed income funds, etc.

What are the differences between equity funds and debt funds?

After knowing the basic meaning of equity and debt funds, investors should know the key differences between the two funds to make sound investment decisions that ultimately meet their investment objectives and can provide good returns.

Following are the basic differences between equity mutual funds and debt mutual funds.

CategoryEquity Mutual FundsDebt Mutual Funds
Asset allocationAt least 65% of the funds assets have to be equity or equity related instruments At least 65% of the funds assets have to be debt or debt related instruments 
Risk profileEquity instruments are more volatile to the market fluctuations and hence the risk involved in equity mutual funds is higherDebt instruments are not as volatile to the market fluctuations and hence the risk factor for debt mutual funds is lower. 
ReturnsEquity mutual funds have the potential to earn the highest returns for the investors and increase the investors’ wealth but these returns are unpredictable.The returns of debt mutual funds are lower than equity funds but are quite predictable and steady. 
Target investorsEquity funds are suitable to investors with moderate to high risk appetites and those who are looking to increase their wealth in short term or long term depending on their investment strategy.Debt mutual funds are ideal for investors with low risk appetites and who are looking to earn a steady income through mutual fund investments.
Expense ratioThe expense ratio of equity funds is higher than debt mutual funds Debt mutual funds have a relatively lower expense ratio
TaxationEquity funds are liable to capital gains depending on the period of holding. Short term capital gains are taxed at 15% while long term capital gains are taxed at 10% after a tax exemption of up to Rs. 1,00,000Debt funds are also subject to capital gains depending on their period of holding. Short term gains are taxed at the applicable slab rates of the investors and the long term gains are taxed 20% after the benefit of indexation 
Tax saving schemesEquity funds have the option of investment in tax saving schemes namely ELSS funds Debt funds do not have any options of specialized tax saving schemes 

How to choose between equity funds and debt funds?

To make an investment decision between equity and debt mutual funds, an investor has to consider many factors like their risk profile, their investment objective, the investment horizon as well as the investment budget. These factors heavily influence the decision making process and help the investors in choosing the right funds that meet all the criteria of the investors. 

While equity funds may seem to be risky in the short term they have the potential to generate the highest returns for the investors in the long term. Debt funds, on the other hand, are ideal for investors who wish to gain the benefits of mutual funds over traditional investment options but want to limit their exposure.  

How to invest in equity and debt funds?

Investment in equity or debt funds can be done easily through any fund house or any registered broker. Finity is a leading online platform that helps investors to invest in equity funds or debt funds easily. The process to invest in equity funds or debt funds through Finity is mentioned below.

  • Download the ‘Finity’ app through Google playstore or Apple Store.
  • Log in to your account using the username and password
  • Select the desired fund category (Equity Funds or Debt Funds) available on the home page of the app. 
  • After selecting the desired fund category, investors will have to select the type of funds that they wish to invest in by selecting the same through the subcategories in each case. (Example, Equity  >> Large Cap>> Fund name)
  • After selecting the desired fund, the next step is to make payment for the same using any of the online payment modes available.
  • After getting the acknowledgment of the payment, the investor will have successfully invested in equity funds or debt funds as the case may be. 

FAQs

1. What is the tax rate on debt funds?
A. Capital gains on debt funds held for a period less than 3 years are short term capital gains and taxed at the applicable slab rates of the investors. Long term capital gains on debt funds are on funds held for a period of more than 3 years and are taxed at 20% after indexation.

2. How are equity mutual funds taxed?
A. Short term capital gains on equity mutual funds are on funds held for a period of less than 1 year and are taxed at 15%. Long term capital gains on the other hand are equity funds held for more than a year and are taxed at 10% after the benefit of tax exemption up to gains of Rs. 1,00,000. Moreover, the dividends received by the investors through equity funds are also taxable at the hands of the investors post an amendment in the budget of February 2020.

3. Which fund among debt or equity funds has the option to invest through SIPs?
A. The option to invest through SIPs or lumpsum investment mode is available in the case of both equity funds and debt funds. 

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