Rama Krishna Vadlamudi November 25th, 2009
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Investors looking for investments in liquid mutual funds can consider the following liquid funds. Every individual needs to keep some money in liquid funds or savings banks (SB) deposits for meeting their emergency or day-to-day requirements. Experts opine rather suggest that at least six months of one’s income must be kept in liquid form for emergency/medical purposes. One can keep two months of one’s income in SB account, the remaining four months of such emergency/contingency fund can be kept in liquid funds. While SB accounts offer immense liquidity through ATM cards, mobile banking and cheque book facility; there are some good alternative to SB deposits. Even institutional investors also keep their short-term surpluses in such instruments separately floated for them by mutual funds.
There are a variety of liquid mutual funds, variously termed as, money market mutual funds or liquid mutual funds. While SB accounts are supposed to give an interest of 3.25 per cent per annum, the effective yield for a depositor works out to a meager 2.5 per cent or even less due to some peculiar features of SB accounts in India. Banks pay interest on SB accounts on the minimum balance maintained between 10th and last day of the month. Depositors lose out heavily because of this distortion. This gross aberration is being rectified by Reserve Bank of India effective April 1, 2010 – from that date banks have to pay interest on daily average balance. Though belated, this is a good and depositor-friendly intervention from the central bank.
Liquid mutual funds invest in short-term instruments with maturity of up to 91 days. As such, their returns will depend on the demand for short-term funds. For example, during 2008, due to tight liquidity conditions, liquid funds were able to deliver returns of nine to 10 per cent per annum to liquid fund investors. This was very much higher than the supposed SB deposit rate of 3.25 per cent. But this year, SEBI had directed liquid funds not to invest in instruments of more than 91-day maturity effective from May 1, 2009. As such, their returns have come down drastically for liquid funds in the last six months.
Moreover, due to benign interest rate regime in the monetary system, short-term rates of certificate of deposits and commercial papers have come down. If and when the interest rate cycle takes an upward curve, then these liquid funds will be able to generate returns of five to seven per cent in future. As of now, due to immense liquidity and subdued interest rates, the returns from liquid funds are hovering between four and five per cent, which is just half of what they paid in 2008. The returns may improve going forward depending on interest rate cycle.
Salient features of liquid mutual funds:
Liquid funds invest in debt instruments and money market instruments
Investments in liquid funds are practically risk-free, even though they carry interest rate risk and credit risk
Interest rate risk and credit risk are practically NIL as these funds invest in short-term instruments
Investments of up to Rs one lakh in SB accounts are guaranteed by DICGC (an arm of RBI) in the event of any bank going bankrupt; however, there is no such protection for investments in liquid funds
There are no entry and exit loads for liquid funds
They are easy to invest and easy to redeem, though in certain cases the redemption may take two to three working days
One important factor to consider before investing is expenses ratio. The lower the expenses ratio, the better for investors
SUITABILITY OF LIQUID FUNDS:
Liquid funds are suitable for individual or institutional investors who are seeking returns for short-term tenure and wants to keep the funds in highly liquid form, that is, encashable easily
Instead of keeping more than required money in savings bank deposits (which give a yield of about 2.50 per cent per annum) or current accounts (which give no interest), individual/institutional investors can consider liquid funds alternatively
GOOD LIQUID FUNDS: (Table 1)
YEAR 2009 2008
LIQUID FUNDS AAUM Rs crore* Q3 Q2 Q1 Q4 Q3 Q2 Q1
Returns % #
CANARA ROBECO LIQUID
RETAIL-G 24 1.03 1.20 1.63 2.46 2.36 2.08 2.13
HDFC CASH MANAGEMENT
SAVINGS PLAN-G 5,233 1.18 1.32 1.78 2.24 2.33 2.09 2.04
LIC MF LIQUID-G 13,315 1.24 1.38 1.92 2.50 2.37 2.14 2.13
UTI MONEY MARKET
MUTUAL FUND-G 207 1.15 1.37 1.82 2.40 2.33 1.92 1.83
* AAUM-Average assets under management as on Oct. 31, 2009
# The returns in percentage are absolute, but not annualized for calendar quarter - for growth plans of open-ended schemes
From the above table, it can be observed that, LIC MF’s Liquid fund-Growth Plan has been consistently giving highest returns in the last seven quarters. In fact, the data for last 30 quarters (since Apr-Jun 2002 qtr till the latest) indicate that LIC MF’s Liquid fund has given one of the best returns in 22 quarters. Next come HDFC Cash Management Savings Plan and UTI Money Market Mutual Fund. (see tables 2 and 3 below)
Main features of these liquid funds: (Table 2)
LIQUID FUNDS Minimum (Rs) Min. (Rs) Expenses Ratio STP Port-folio RISK
subscription Balance % in 2009
LIC MF LIQUID-G 25,000 25,000 0.4 YES Good Rating LOW
CANARA ROBECO
LIQUID RETAIL-G 5,000 NA 0.42 NO Good Rating Bel. Average
HDFC CASH MANA-
GEMENT SAVINGS
PLAN-G 10,000 NA 1.27 YES Good Rating LOW
UTI Money Market
MUTUAL FUND-G 10,000 10,000 0.43 YES Good Rating Bel. Average
STP-Systematic Transfer Plan; Data as on 20.11.09; & Data source: ValueResearch
RETURNS FROM LIQUID FUNDS: (Table 3)
LIQUID FUNDS RETURN %:
1-week # 1-month # 3-month # 6-month# 1-year #
LIC MF LIQUID-G 0.09 0.40 1.20 2.52 6.42
CANARA ROBECO LIQUID RETAIL-G 0.07 0.30 0.93 2.06 5.42
HDFC cash mgmt. savings plan-G 0.08 0.37 1.12 2.38 5.98
UTI MONEY MARKET MUTUAL FUND-G 0.07 0.33 1.00 2.29 5.99
# The returns in percentage are absolute, but not annualised
Data as on Nov. 20, 2009; Data source: ValueResearch
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SOME OTHER GOOD LIQUID FUNDS:
• There are several well-known liquid mutual fund schemes, like, Templeton India Money Market Account (TIMMA is the first MMMF in India), Birla Sun Life Cash Manager, SBI Magnum InstaCash, Quantum Liquid fund (net assets are very low) and DWS Insta Cash Plus Regular.
• In the category of institutional plans of liquid schemes, the following schemes are well known: Birla Sun Life Cash Manager Inst, ICICI Prudential Liquid Super Inst, Reliance Liquidity fund, Tata Liquid Super HI, Templeton India Super Inst, and UTI Liquid Cash Inst.
Tax Treatment of Growth Plans of Liquid funds
for Resident Individuals
1. LONG-TERM CAPITAL GAINS TAX (LTCG): Suppose a resident individual has invested money in the growth plan of a liquid MF scheme. If she keeps the units for more than a year, the profit from the sale of such units will be subject to long-term capital gains tax at the rate of 20 per cent (including education cess, it comes to 20.60 per cent) with indexation benefit. Without indexation benefit, the tax liability will be 10.30 per cent including education cess.
2. SHORT-TERM CAPITAL GAINS TAX (STCG): Suppose a resident individual has invested money in the growth plan of a liquid MF scheme and she sells the units within one year from the date of investment. The profit from sale of such units will be included in her taxable income and taxed according to her individual tax slab (that is, marginal rate of tax).
Tax Treatment of Dividend Plans of Liquid funds
for Resident Individuals
Returns received from dividend plans of liquid MFs are tax-free in the hands of resident individuals; however, mutual funds deduct a dividend distribution tax (DDT) of 25 per cent (including education cess, it works out to 25.75 per cent) and pays the remaining dividend to the unitholders. To that extent, the return from dividend plans will be lesser.
Tax Treatment of Mutual Funds in India (Table 4)
LONG-TERM CAPITAL GAINS TAX *
SHORT-TERM CAP. GAINS TAX *
INIDIVIDUAL CORPORATE INIDIVIDUAL CORPORATE
Equity MFs NIL NIL 15.45% 16.995%
Debt MFs # 10.30% without indexation 11.33% without indexation Taxable as per the rate applicable to the investor
33.99%
20.60% with indexation 22.66% with indexation
* Individual - includes education cess of 3%; corporate - incl. surcharge 10% % edu. cess of 3%
# Debt MFs include liquid and money market mutual funds
Definition of long-term/short-term capital gains: If an investor holds a mutual fund for more than one year from the date of investment, gains or losses from such funds after redemption are considered as long-term capital gain or loss as the case may be. If the investor redeems a mutual fund within one year, the gain or loss from such a fund after redemption is considered as short-term capital gain or loss as the case may be.
Definition of an equity mutual fund: If any mutual fund invests 65 per cent or more of its net assets in the equity or equity-related instruments, then such a mutual fund is considered as an Equity Mutual Fund for income tax purposes as per Income Tax Act.
DIVIDEND DISTRIBUTION TAX (DDT): (Table5)
DIVIDEND DISTRIBUTION TAX (DDT) *
As per Section 115R of the IT Act, DDT is payable by debt mutual funds including liquid funds or money market mutal funds (MMMFs) on dividends distributed by them to unitholders.
* For individuals, DDT includes education cess of 3% and for corporates, DDT includes surcharge of 10% and education cess of 3%.
INIDIVIDUAL
CORPORATE
Equity MFs NIL NIL
Debt MFs excl. liquid funds
12.875% 22.66%
Liquid MFs or MMMFs
25.75% 28.325%
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