Fixed Deposits(FD) vs Debt Mutual Funds: What is better?

FD vs Debit Fund

One of the most frequently asked questions by investors is: Which is a better investment option – Fixed Deposits or Debt Funds?

Fixed Deposits or FD provides a fixed return with minimal risk whereas Debt Funds has the potential to provide a slightly higher return as compared to FD with the slight risk of market fluctuations.

First, there is a quick into about both the products available to risk-averse investors.

What are the main differences in FD vs Debt Fund?

FD or fixed deposit is one of the most popular savings and investment options in Indian households. They prove that a small amount of money saved regularly over the long term can create a big sum.

On the other hand, debt funds are a category of mutual funds that invest in debt and money market instruments like, commercial papers, certificates of deposits, corporate bonds, Government bonds, etc.

Both fixed deposits and debt funds seem to be similar at first glance, however, they differ in various aspects. While both offer decent returns and are relatively risk-free, (especially in comparison to equity investments), there are quite a few major differences between the two. 

6 Differences between Debt Fund and Fixed Deposits

Let’s compare them on the basis of 6 important factors and see which one is better and in which case.

The 6 parameters of comparison are – risk, rate of returns, liquidity, variety of investment options, taxation, and capital protection.


FD – FD is one of the safest saving and investment instruments available in the market. They offer assured returns to investors since there’s no fluctuation in the quoted interest you earn irrespective of how the market performs. The interest rate you lock-in with when making the initial deposit is what applies throughout. Thus, the risk involved is negligible.

Debt Funds – Debt funds, like any type of mutual fund, are very much susceptible to market risks. They mainly invest in debt and money market instruments like commercial papers, certificates of deposits, corporate bonds, Government bonds, etc.

Hence, they are subject to market risks and there is no assurance of capital safety. The upside here is that debt funds invest in safer fixed-income instruments and securities as compared to equity schemes.


FD – FD returns are usually based on tenure and the prevailing market rates. RBI repo rates also play an important role in determining the returns offered. It is observed that when market rates are high, the FD interest rates also high and vice versa. 

The returns, however, once fixed remain the same throughout your FD tenure, irrespective of the market performance and rates.

Debt Funds –  Experts believe that debt funds can easily offer higher returns as compared to FDs. No doubt it is subject to market risks, but historically, debt funds have offered higher rates of returns as compared to FDs.

For instance, the 1-year average category return of liquid, overnight, and ultra-short-term debt funds range from 5.98% to 6.86%, and Gilt fund for the same tenure fetches 15.13% which is any day higher than FD interest rates. 

Debt fund returns are lower than their equity-based counterparts or stocks but they are safer instruments although still affected by market-linked risks. 


FD – There is no doubt that FDs offer less liquidity as compared to debt funds. In case an investor wants to prematurely withdraw from their fixed deposit account, it involves paying a penalty charge. Also, there are chances that one may get a lower interest rate on the withdrawn amount. 

Tax-saving fixed deposits, on the other hand, can not be liquidated before its tenure. Investors must lock-in their investment for 5 years in case of a tax-saving FD. 

Debt Funds – Debt funds are highly liquid and can easily be redeemed. These funds are redeemed at the prevailing NAV (Net Asset Value) which can either be lower or higher than the amount that you initially invested. However, some debt funds may charge an amount called exit load on redemption before a predefined time span. This amount varies across fund categories and individual fund houses.

Debt funds categories like liquid, ultra-short, and overnight funds do not charge any exit load at all. More often than not, investors park their emergency and contingency money in these funds.

Variety of Investment Options

FD – FDs offer multiple investment options. There are regular FDs and tax-saving FDs.

The tenure for a tax-saving FD is 5 years, while that of a regular FD can range anywhere between 1 and 10 years.

One can invest in fixed deposits at the post office or at the bank. While post offices generally offer a fixed rate decided at the beginning of every quarter, the FD rates for banks can differ depending on which bank you choose.

  1. Cumulative FDs: Cumulative FDs are a great long term deposit instrument. In this case, the interest keeps getting accumulated instead of periodic disbursals. When the accumulated interest is reinvested further, then due to the power of compounding the interest earned is much higher and a big sum gets saved over the years

  2. Non-cumulative FDs: Non-cumulative FDs offer periodical interest payouts. You will receive the interest either monthly or quarterly based on the scheme. The periodic income generated throughout the tenure remains fixed. Due to relatively less compounding, the overall interest accumulated is much less.

Debt Funds – Debt funds offer a variety of investment options. There are 16 categories of debt funds available in which investors can invest:

  1. Liquid funds –  Liquid funds have a maturity period of a maximum of 91 days. These invest in short-term debt instruments, like the 91-day treasury bill.

  2. Income funds – An income fund is a type of mutual fund that focuses on offering stable returns to investors throughout different market conditions, either on a monthly or quarterly basis, as opposed to capital gains or appreciation.

  3. Short-term and ultra-short-term funds: Short term funds involve a maturity period of up to 3 years. Ultra Short Duration Funds are debt funds that lend to companies for a period of 3 to 6 months.

The other categories are gilt funds, credit opportunities funds, dynamic bond funds, money-market funds, fixed maturity funds, corporate bond funds, banking, and PSU funds, etc.


Fixed Deposit – The interest earned from a fixed deposit is added to the investor’s annual income and is then taxed according to the applicable tax slabs.

Tax Deducted at Source or TDS is applicable on the interest earned, which you can later adjust with your tax liability when filing ITR. It’s deducted if the interest earned in a year is above Rs. 40,000 for general citizens and Rs. 50,000 for senior citizens.

An investor can also submit Form 15G or Form 15H with the bank if his/her annual interest income from FD does not exceed Rs. 40,000 or Rs. 50,000 so that TDS is not deducted.

Debt Funds – Debt funds are subjected to capital gains tax. Taxes on debt funds are based on the term, short-term capital gains (STCG) and long-term capital gains (LTCG).

STCG from debt funds are gains that are held for up to 3 years or 36 months. In case an investor redeems debt funds before three years of investment, it will get the same tax treatment as a fixed deposit. The gains will be added to his/her income and will be taxed according to the slab rate. 

If held for over 3 years, the LTCG tax on debt funds is 20 percent with indexation, and 10 percent without indexation.

Capital Protection

FD – FDs offer capital protection.

An FD opened with scheduled banks is covered under the deposit insurance program provided by DICGC (Deposit Insurance and Credit Guarantee Corporation), an RBI subsidiary. In case of bank failure, the insurance scheme covers both principal and interest components of bank fixed deposits as well as current, savings, and recurring deposits of each depositor for up to Rs 5 lakh (for scheduled banks only).

Remember that those opening deposit accounts in multiple scheduled banks will get Rs 5 lakh cover separately for each of those banks in case of bank failure.

Debt Funds –   Debt funds offer no capital protection. Since the underlying fixed income securities are traded in the debt markets, debt funds are not immune from capital erosion. Other than that the 2 major risks of investing in debt mutual funds are – credit risk and interest rate risk.

Written by

Priyanshi Bhardwaj