Can Liquid Funds Replace Your SB Account?

Can Liquid Funds Replace Your SB Account?

Liquid funds and savings bank account are as different as chalk and cheese. Both are nonsubstitutable, while liquid funds ensure you of liquidity along with steady returns, they cannot guarantee you fixed returns.

One of the most popular financial products among retail investors is the savings bank (SB) account. The SB account is one of the most easy and convenient way to park your earnings. The SB account is a basic financial product which almost everyone has, especially the salaried people. This was given further boost by the government initiative, i.e. “Jan Dhan Yojana”, which enabled the large un-banked section of the population in India to have an SB account. 

In this digital age, many things have turned in favour of the SB account. This enables you to link your SB account to almost anything. New platforms are coming into the market such as PayTM, Uber, Swiggy, BHIM, etc. which allows you to make payments directly from your bank account very easily. In developed countries such as United States, you now just have to tap your mobile to a device and payment is directly done from your credit or debit card. The SB account also allows you to carry 'plastic' money with you and you can withdraw cash from the ATM (Automated Teller Machine) anytime. You can also make payments using net banking via NEFT (National Electronics Fund Transfer), RTGS (Real Time Gross Settlement) and IMPS (Immediate Payment Service), where payments through IMPS can be done 24x7.

The SB account also provides you interest on your bank balance. But if we look at the rates of interest offered by these banks, it is no more than 3.5 per cent to 4 per cent and the trend is moving downwards. Though now some of the banks have started providing interest rate of around 6 per cent, but these are subject to certain conditions, one of which is that you will get 6 per cent rate of interest on the balance over Rs. 1 lakh. But, despite all this, can the SB account be replaced by a liquid mutual fund? 

A liquid mutual fund invests in debt instruments and money market securities with maturity up to 91 days and the rate of returns provided by the fund is certainly more than that of SB account. The average rate of return provided by liquid mutual fund category is 6.74 per cent as one year return, 6.94 per cent as three-year returns and 7.66 per cent as five-year returns. So, as we can see, liquid mutual funds have provided superior returns than the SB account. The table below shows how liquid funds have provided returns over the years.

It is evident from the above table and the graph that the average returns on liquid mutual funds have gone through ups and downs, but if we compare it with the interest provided by the banks on SB account, then the liquid mutual funds have still provided more returns than the SB account. Therefore, it is a no brainier to shift your SB account deposits to a liquid fund to earn extra rate of interest if immediate liquidity is not your concern. It takes two working days to get your money back into your account after redemption of your liquid fund.

Nonetheless, you should look at the taxation part to get better comparison of returns. If we look from the taxation perspective, then if it is STCG (Short-Term Capital Gains) tax, then both are taxed in a similar manner, i.e. the gains from liquid mutual funds and the interest earned on your SB account are added to your income and are taxed as per individuals income tax slab rate. It is to be noted that under section 80TTA of Income Tax Act, deduction is allowed on interest on SB account with a maximum limit of Rs. 10,000. No such exemption is available for liquid mutual funds. However, liquid mutual funds enjoy the indexation benefit if the gain is LTCG (Long-Term Capital Gain), which means the investment is held for more than three years. In the case of SB account, you are not charged LTCG tax as the gains (interest) is realised (credited) to your SB account which can never be termed as LTCG. Another important factor that distinguishes SB account and liquid fund is in terms of risk. Liquid mutual funds are marginally higher risk compared to SB account, although liquid funds invest in highly rated instruments.

So, the question still remains: Can liquid mutual funds replace SB account? If we look at the structure of the products, i.e. SB account and liquid mutual funds, then it is clear that these are completely different products with different end-use purpose. The purpose of SB account is to allow the end-user or customer to deposit his money with the bank as keeping lot of money with himself or in the house is not safe. The purpose of liquid mutual funds is to allow the end-user or investor to park his money as an investment and earn returns on the same in the short run. So, for the SB account, keeping the customers money safe and allowing them to deposit and withdraw as and when required is the main purpose and not investment. On the other hand, investment for the short-term is the purpose of liquid mutual funds. 

So, if you are looking at liquid mutual funds to do whatever your SB account does, then liquid funds cannot replace your SB account. However, if you are looking at your SB account as an investment avenue, then liquid mutual funds can be one of the better replacements to the SB account.