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SIP Vs RD: Which is a Better Investment Option?

The two broad asset classes that an investor can invest in to generate wealth in the long term are equities and debt instruments. Investing in equities gives an investor ownership in a company while debt investments are treated as lending, wherein the company or bank will owe you money.

Recurring deposits are term investments products with banks. They are similar to debt products since the bank owes you the principal plus interest upon maturity. Systematic investment plans are investments in mutual funds that can be equity-oriented, debt-oriented, or a mix of both. The two instruments are meant for different kinds of investors. To evaluate the suitability of each for yourself, you have to first understand the instruments.

What is an RD?

RD - Recurring deposits are periodic bank or post office deposits for a specific time frame. As an investor, you can invest in an RD every month for tenures ranging from six months to 10 years. Post office RDs can be started with as little as Rs.10, while banks have a limit of Rs.100.

RDs are a type of term deposit product that carry low risk and provide a stable return. The interest rate varies depending on the duration of the deposit.

What is an SIP?

SIP - Systematic investment plans are like RDs when it comes to the periodicity of investments. However, instead of deposits in a bank, the investments are in a mutual fund schemes. The frequency of investment varies from daily investment to annual investment. The  minimum investment amount in Franklin Templeton’s SIPs begins at Rs.500. Investors can use SIP calculator to calculate and estimate the returns on their SIP investment.

Investors who have high risk capacity and want to meet specific financial goals can invest through SIPs. They provide an exposure to equities but can also be debt-specific or a combination.

Each investment avenue has its own benefits and appeals to a certain set of investors.

Benefits of RD (Recurring Deposits)

1. Guaranteed returns

RDs provide a fixed return on investments for the entire duration. This is known at the time of investment. The interest rate varies from one bank to. However, once an RD is opened, the interest rate remains the same for the whole tenure of the deposit. Investors are assured of the return, making this a low-risk instrument.

2. Flexible time horizon

RDs range from six months to 10 years. Given that the interest rate is fixed, the returns will not vary so investors can put in money even for the short term.

3. Easy investment

Investing in an RD is easy because anyone who has a bank account can make an investment in this product. Some banks also allow a standing instruction online to deposit the money directly, further smoothening out the process.

4. Senior citizen benefit

Like all other bank investments, RDs also provide senior citizens a higher interest rate compared to other investors. Senior citizens vis a vis non senior citizens can make greater returns annually via this investment.

Benefits of SIP

1. Liquidity

SIPs are liquid investments, meaning you can redeem them whenever you’d like. Certain funds may also allow you to redeem units without an exit load, like overnight funds. Liquid funds also eschew an exit load after the seventh day.

2. Flexibility

SIPs are flexible with investment horizons, amounts and even redemption. You can invest daily, weekly, monthly, quarterly or annually. Amounts can also be changed based on convenience. SIPs also allow you to redeem partially, although selling before a year since purchase will attract a fee in the form of an exit load. The exit load for each unit is calculated individually.

3. Higher returns

Investing in diversified companies across sectors provides the possibility of potentially making better returns. Additionally, the power of compounding helps systematically grow a small investment every month into a substantial sum at the end of the tenure.

4. Tax break

Investing in an ELSS SIP, a special tax-saving mutual fund, can also benefit you through certain tax breaks.

5. Market timing

Investing in SIPs can give you an exposure to equity markets while eliminating the need to time the market correctly. Since SIPs spread out the investment, volatility is lower compared to pure equity or lumpsum mutual fund investments while increasing the probability of high returns.

SIP vs RD - Which one is better?

Since both investments have different benefits, the suitability will depend on your needs as an investor.

An RD is a good investment avenue for risk-averse investors who want to invest money every month. RDs also help fulfill both short-term and long-term goals. Since the returns are assured, you can strategize across all time-frames. RDs can also be an ideal instrument to build an emergency fund. This is because you set aside a regular sum that can help you earn interest. Returns on RDs are taxable, so this investment is better suited to people in lower tax brackets. This is also suitable for senior citizens because of its safety as well as the beneficial return factor.

Alternatively, SIPs are for investors who are willing to take on higher risk for potentially greater returns. SIPs are ideal for investors with long-term goals and long-term investment horizons. SIPs can also be a good product for investors looking for tax breaks since ELSS SIPs can help in that regard.

Once you have come up with your own investor profile, you can choose between an RD and an SIP for your periodic investments.

Bottomline

When you are choosing between the two products, consider your income slab, risk capacity, investment horizon, and investment goal. If you can afford to take relatively higher risk and commit for a longer duration, a SIP investment can prove beneficial. If you want to minimize risk to an extent, choosing to invest in a debt fund can help diversify your portfolio, although it will entail taking on a slightly higher risk.

 

This document provides general information and comparisons made are only for illustrative  and understanding purposes only. Investments in mutual funds and secondary markets inherently involve risks and recipient should consult their legal, tax and financial advisors before investing. Investments in mutual funds carry higher risks than recurring deposits. Recipient of this document should understand that statements made herein regarding future prospects may not be realized. Recipient should also understand that any reference to the indices/ sectors/ securities/ schemes / other instruments etc. in the document is only for illustration purpose and should not be considered as recommendation / investment advice in any manner whatsoever. Recipient of this information should understand that statements made herein regarding future prospects may or may not be realized or achieved. SIP does not assure a profit or guarantee protection against loss in a declining market and should not be construed as a promise, guarantee on or a forecast of any minimum returns.

Next To Come: What Are the Tax Implications On Mutual Funds?