FMP (fixed maturity plans) vs Bank FDs: What you need to know

Bank fixed deposits are the preferred choice of many investors who want assured returns on their investment. Fixed maturity plans or FMPs, which are closed-ended debt mutual fund schemes, can also be a part of your fixed-income portfolio, especially in the current high interest rate environment, say financial planners. But returns from FMPs are not guaranteed. In recent months, there has been a flurry of launches of fixed maturity plans (FMPs) from mutual fund houses.

The reason: a rising interest rate environment, where 10-year benchmark bond yields are again rising towards the 8% mark. Investors who want to lock in their money at attractive yields prevailing at a given time can consider FMPs, say financial planners.

What are FMPs?

As FMPs are closed-end debt mutual fund schemes, they come with a specific tenure. So investors can invest only at the time of a new fund offering (NFO). Similarly, you cannot withdraw before maturity, but you can sell such schemes on the stock exchange. The corpus of FMPs is invested in fixed-income securities that mature just before the scheme itself. For example, if the FMP is for three years, the fund manager will invest in instruments with a maturity of three years or less. This helps FMPs to protect against interest rate risk.

In the current interest rate regime, FMPs offer a good investment opportunity as investors can lock in their money at attractive yields, says K. Ramalingam, chief financial planner at Holistic Investment Planners.

Bank FD and FMP income tax treatment and other details

1) The interest income from bank fixed deposits or FDs is added to the income of the investor and taxed at the applicable slab.

2) As FMPs are debt funds, taxation depends on the maturity period. Thus, FMPs with maturity of over three years score over fixed deposits when it comes to income tax implications.

3) Returns from FMPs longer than three years are treated as long-term capital gains and taxed at 20% with indexation.

4) This indexation benefit is not available in case of bank FDs.

5) Indexation means adjustment of gains after taking inflation into consideration. So an investor who has invested in an FMP of over three years will be paying taxes only on the returns over and above the inflation-adjusted initial investment.

6) This is one of the reasons why many fund houses launch FMPs between January and March every year. The indexation benefit, for example, is available for four years if one remains invested in an FMP for a little over three years.

7) Though FMPs above three years enjoy tax advantage vs fixed deposits, investors should note that returns are not assured in FMPs and are indicative in nature, says Ramalingam. Also, pre-closure/redemption is possible only through the secondary market (stock exchange), he adds.

8) Mutual fund houses have to list FMPs on stock exchanges, according to Sebi rules. But liquidity in these instruments on stock exchanges is low. So if you are planning to invest in an FMP, invest only those funds that you don’t need till the maturity of the fund.

9) On the other hand, banks offer a premature withdrawal facility on fixed deposits or FDs. For example, India’s biggest bank SBI says that in case of premature withdrawal, the interest will be 0.50% to 1% below the rate applicable at the time of deposits.

10) FMPs also face credit risk. So investors should check the scheme’s offer document for the minimum credit rating of the securities the fund intends to invest in.