FMPs are attractive Investments - High Returns and Tax Benefits

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Over the next two months, a host of fixed maturity plans (FMPs) are coming for redemption. And, investors can expect better interest rates if they re- invest the proceeds.

Interest rates on bank certificates of deposit (CDs), in which most FMPs invest, have inched up to around 9.8 per cent annually, from 9.6 per cent a few months earlier. Experts say the rates from FMPs have never been better. Hence, go beyond the traditional 14- month tenures to longer ones of 26 and 38 months, say experts, as the yields might not remain so high for long.

They also say investors shouldnt try to time their investment or look for rate spikes. That would mean keeping money idle in lower- yielding fixed income accounts for a brief period. The rates are quite attractive now. Investors who feel yields could move higher are trying to time the market. But they might miss on accruing interest. Better a disciplined approach for all periods. FMPs aim to generate a steady return over a fixed tenure, typically from a month to three years, and are similar to bank fixed deposits (FDs). They protect an investor from interest rate volatility by investing in fixed securities, with maturities as that of the scheme. For instance, if the scheme has a 14- month tenure, the fund will invest in fixed income paper that matures in 14 months. For now, FMPs maturing in 14- 15 months are the most popular, as these offer double- indexation benefits.

Investors can make taxfree returns from FMPs, compared to an FD, which is taxable. For example, an investor in a 14- month FMP in February 2014 that will mature in April 2015 can get capital indexation benefits under the capital gains tax rules for a period of two years. This structure makes these funds more popular than FDs. In a recent study on returns, CRISIL noted FMPs gave better returns than FDs of one to three years, with 92 per cent beating FD returns over a similar time frame. And, due to the tax- efficiency of FMPs, post- tax returns are even better.

Check the underlying credit quality as well. For instance, FMPs typically invest in bank CDs, non- bank finance companies, real estate and other fixed income assets. If an FMP is investing largely in a bank CD or high- quality rated paper, it’s considered to have a good credit profile. Experts also say one shouldnt compromise on credit quality and chase very high yields. Investors shouldnt take more risk for a marginal rise in returns. Also, budget your cash flows if investing for longer durations. Investors should budget their investments, as FMPs come with a lock- in. If one doesnt require funds for that period, only then should one go for FMPs

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