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Public Provident Funds Or Mutual Funds: Which is the right choice?

Author: Viral Bhatt/Wednesday, September 18, 2019/Categories: Exclusive

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Public Provident Funds Or Mutual Funds: Which is the right choice?

Mutual funds (MFs) and Public Provident Funds (PPF) are popular investment and savings schemes. Investors choose mutual funds if they are keen on creating wealth. On the other hand, PPFs are a preferred choice if one wants to save money and then build on wealth. PPF scheme is backed by the government and guarantees an assured interest rate and returns.

Mutual funds, however, are subject to market risks. The choice between MFs and PPF depends on factors like financial goals, return expectations, risk appetite, financial needs and of course age. But if you want to invest in MFs or PPFs, you should know about their advantages and disadvantages to make a prudent decision.

Why Mutual Funds?

1) The biggest advantage in investing in mutual funds is the liquidity available in open-ended schemes. In most debt schemes, the pay-out cycle is t+1 i.e. you put in redemption today and you get your funds the next day. The redemption of mutual funds is fairly easy. In most cases, it can be done online.

2) There is no amount restriction on any individual and there are offerings suited in line with one's investment tenure or one's risk appetite.

3) Taxation in mutual funds varies depending on whether one is investing in equity or debt-based schemes. Debt funds offer the benefit of indexation, which means that you can bring down your taxable gains on the investments by inflating the purchasing price. This is good from investors' perspective.

4) Mutual funds invest in a pool of 60-70 stocks and bonds. Since mutual funds are diversified, it reduces their overall risk.

5) Mutual funds are managed by professional fund managers with a team of analysts. The experts track stocks, sectors and industries, which helps them make wise investment decisions for their clients.

6) Mutual funds can be invested via the SIP route. Systemic Investment Plans or SIPs allows investors to invest in mutual funds through small and periodic instalments. Investors can enjoy the power of compounding when they invest in mutual funds via SIP. When you extend the investment period, you can earn profit not only on your original investments, but on any interest, dividends, and capital gains that accumulate, so your money can grow faster and faster as the years roll on.

Why Public Provident Funds?

1) Public provident funds offer a fixed interest rate. The interest rates on PPF are decided every quarter by the government. PPF investments will fetch an interest rate of 7.9 per cent annually. Investment in PPF is safe and the yield is fixed. There is no risk involved.

2) Since PPF accounts have a long tenure of 15 years, the impact of compounding is huge, especially in the later years.

3) PPF accounts enjoy an Exempt, Exempt and Exempt (EEE) status, which means that the returns are exempt from tax, the maturity amount is tax-free and the main investment qualifies for a deduction under section 80C of the Income Tax Act. The contributions made to PPF accounts can be claimed for tax rebate up to Rs 1.5 lakhs.

4) If a PPF customer wants to avail a loan, he can do so from third financial year onwards. This facility is available till the fifth financial year and the loan can be taken once a year. Moreover, the PPF account can be extended for another five years after the main 15 years are completed.

Disadvantages of mutual funds

1) Returns on mutual funds are not guaranteed as they are linked to market sentiment. You can take cues from the past returns, but that clearly is no indication of its future performance. There are periods when mutual funds underperform the broader markets, which can be frustrating for investors. The true returns of a mutual fund scheme can only be realized in the long term. Hence you have to be patient with your mutual fund portfolios.

2) A liquid fund which invests in treasury bills and corporate papers and offers low interest rates among debt funds could be subject to market volatility, though it would be lower given the underlying investments are of a shorter tenure.

3) Since mutual funds are professionally managed funds, there are some charges which mutual fund companies have to pay to the management and fund managers. These expenses directly affect the returns that an individual is able to realize from his/her investment portfolio. In some cases, if an investor redeems money before one year, he/she has to pay an exit load of 1 per cent depending upon the fund.

4) Some MFs like ELSS - which help save IT or close-ended funds, have a lock-in period of three years. The money cannot be redeemed before that.

5) Returns from mutual funds are charged under Short Term Capital Gains (STCG) tax at 15 per cent plus cess if the holding period is less than a year and are charged under Long Term Capital Gains (LTCG) tax on returns above Rs 1 lakh at 10 per cent plus cess if the holdings are for more than one year.

6) As an investor, you can only opt to invest in a particular mutual fund - you cannot select your investment in a particular stock.

Disadvantages of PPFs

1) PPF requires you to make an investment for 15 years. Withdrawals from PPF accounts can be done after the seventh financial year but only 50 per cent of the accumulated amount can be withdrawn by the fifth year.

2) You cannot close your PPF account prematurely. The account can be closed in case of death of the account holder.

3) A minimum Rs 500 each year and a maximum of Rs 1.5 lakh per annum is allowed. The limit of Rs 1.5 lakh is applicable on all accounts either held in investor's name or on behalf of a minor.

4) Only a resident individual can open a PPF account and no joint ownership is allowed. One cannot open more than one account in his/her own name. An account opened on behalf of a minor is treated as separate. NRIs, HUF or body of individuals (BoI) cannot invest in PPF.

Which is better: MFs or PPFs?

Mutual funds make a better investment choice over any asset class to fulfill one's financial objectives. It allows investors to diversify their portfolio depending upon their investment profile and objective. Investors with low or no risk appetite should consider investing in PPF. The returns from PPF have come down over the past couple of years and inflation is 6 per cent, so the actual returns would be 2-2.5%. (The author is head of Money Mantra, a Mumbai-based financial advisory firm. He can be reached at viralbhatt@gmail.com)

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