Home >Money >Personal Finance >Don’t replace bank accounts with instant-redemption liquid funds

Liquid funds are often suggested as an alternative to savings bank accounts for parking extra cash or emergency funds as they give slightly better returns than bank savings accounts and are relatively safer than other debt funds. However, it takes a day or two to redeem your money from liquid funds.

Last week, Sundaram Mutual Fund launched the instant redemption facility in its liquid fund Sundaram Money. Under the instant redemption facility offered by various mutual funds, investors can withdraw up to 50,000 or 90% of the investment amount on any given day through the IMPS facility.

The instant redemption facility make liquid funds more competitive with bank savings accounts, especially as interest rates are at new lows. Punjab National Bank cut the rates to 3% from 3.5% on 3 June, while State Bank of India cut the rates to a historic low of 2.7%, effective 31 May. In comparison, the liquid fund category gave an average return of 5.41% over the past one year.

So, can investors rely on this facility instead of savings bank accounts?

the facility

The facility was initially launched to attract first-time retail investors. Nippon Mutual Fund was the first fund house to launch it in 2016. Axis Mutual Fund, DSP Mutual Fund and PGIM India Mutual Fund followed suit.

To make a withdrawal, you will need to put in a redemption request. In order to arrive at the number of units to be cancelled in line with the redemption request, you’ll need to check the applicability of the net asset value (NAV).

In case the redemption request is placed before the cutoff time, the same day’s or the previous day’s NAV, whichever is lower, will be applicable. In case the redemption request is placed after the cut off time, the same day’s or next day’s NAV, whichever is lower, will be applicable. NAV will be calculated on the basis of the value of the underlying securities divided by the number of units on any given day.

the comparison

The instant redemption facility does help in providing better liquidity, but it can’t replace savings bank accounts.

Savings bank accounts offer fixed and guaranteed returns, which is not the case with liquid funds, though they are safer than other debt fund options. “There is going to be some volatility in returns in case of liquid funds compared with savings bank accounts," said Suresh Sadagopan, founder of Ladder7 Financial Advisories, a Sebi-registered investment adviser.

Apart from safety, investors should look at post-tax returns and other costs. In case of liquid funds, there will be a small exit load if withdrawal is made within the first seven days of the investment.

Also, in case of savings bank accounts, the interest earned up to 10,000 per year is tax-free, while in case of liquid funds, you will have to pay short-term or long-term capital gains tax. If you have invested for less than three years, the short-term capital gains tax is applicable at your slab rate, while long-term capital gains tax is applicable after three years at a rate of 20% with indexation benefit. “You can use liquid funds to park extra cash lying in a savings account, which is likely to earn interest of more than 10,000," said Sadgopan.

But be mindful of the quality of the portfolio of liquid funds. “It is a good alternative if the fund is holding good quality papers. Liquid funds are good for short-term goals, holding emergency funds and to ensure you are saving regularly. Use their redemption facility within the norms they mention, do go through the limits and number of withdrawals in a month so that you know the product well," said Shweta Jain, certified financial planner, CEO and founder, Investography.

Look at your financial needs before making a decision.

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