Markets have really choppy for quite some time now. The largest of the investment banks across the globe are shutting down or writing off huge losses. Recently I got an SMS from one of my friends on analysis of the balance sheets of various investment banks globally:

There is nothing left on the right hand side and nothing right on the left hand side of the balance sheet of investment banks.

At this point of time, the biggest question for you as an investor is to what to do with your savings. Put it in to the equity markets where you not sure if you can ever see your money back or search for some other alternatives to park your surplus funds. Banks are giving out good returns of around 9 to 10 per cent annually for fixed deposits (FDs). The returns offered by them are completely risk-free. But the biggest problem they face is tax deductions. Returns on FDs are subject to tax deduction of 33.66 per cent at source. So effectively a return of 10 per cent would gradually come down to 6.63 per cent. Looking at the current inflation numbers which are not willing to come below double digits, a return of 6.63 per cent is nothing but eroding wealth in long term.

At this point of time Fixed Maturity Plans (FMP) have come as true saviors. FMPs are very similar to FDs in structure. The only major difference in the structure of FMPs and FDs is that in case of FDs the returns are guaranteed, but in case of FMPs, the returns are indicative.

FMPs usually invest in certificate of deposits (CDs), commercial paper (CPs), money market instruments, corporate bonds and even in bank deposits. The tenure of the FMPs can vary from 30 days to 3 years. Depending on the tenure of the scheme, the fund manager invests the money collected in to a mix of all the instruments mentioned above. The expense ratio for the same is also quite low which varies from 0.25 per cent to 1 per cent. The indicative yield is generally, the yield minus the expense ratio.

Generally, the fund house has a specified amount which it looks to collect during the new fund offer (NFO) of the FMP which is open for generally 2 to 3 days. The fund house ties up with many borrowers informally before the scheme opens. Based on the interest rates paid to them by the borrowers they calculate the indicative yields.

The main difference other than structure of the products comes on the tax treatment of FMPs. In the dividend option, investors have to bear the Dividend Distribution Tax which is 14.025 per cent in case of individuals and Hindu Undivided Family, and 22.44 per cent for corporate customers. In the growth option, the returns earned are treated as capital gains considered short-term if less than one year and long-term if the tenure is more than one year. In case of short-term capital gains, the interest income is added to your income and taxed at the marginal rate of tax.

For long-term capital gains, the tax liability is calculated using two methods, with and without indexation. Indexation is a technique where inflation doesn’t erode the real value of the investments. This is generally done to maintain the purchasing power parity of investors. Due to the indexation benefit on FMPs, they manage to give more tax efficient returns compared to FDs. For example, if the return on FMP is 10 per cent for a year. Then the post-tax return for the same would not be less than 8 percent considering the effect of indexation. Even without taking the benefit of indexation, the returns would be in a range of 7.5 to 7.6 per cent which is fairly higher than what is offered by FDs.

These schemes are not advertised heavily as the brokerage is too low. Thus, keeping track of new fund offers of FMPs is really a tough job. You need to really be after the brokers for information on open FMPs in the markets or keep track of them on the Internet. However, at any given time, there are many FMPs open with varying maturity. So searching out an FMP for a desirable tenure is not that a tough job. And looking at the kind of return, the FMPs are worth that effort.