These days, there are several investment options for a common investor and it becomes difficult for him to choose the right strategy. SIPs and FDs sound very much the same and it becomes confusing for the first time investor.
This article will list the major differences between these two financial instruments.
What is a SIP?
When you invest systematically over a period of time, this plan is called an SIP. You can choose any amount in your SIP plan, it can be Rs. 500 per month or 5 lacs. Your instalment depends upon how much money you can spare for a SIP plan.
In a Fixed Deposit or FD, your deposit is fixed for 6 months , 12 months or 18 months. Once you have committed a certain sum of money for a particular period, then you don’t have to worry about making regular deposits. As we have seen above, in a SIP, you should make regular deposits.
- The first major difference is the one related to rates or yields.
In an FD, the rate of interest is fixed and you know your return after the term is over. For example, when you invest a sum of 10,000 rupees for 12 months at the rate of 5%, then you know that after those 12 months, you will get 10,500 rupees.
The yield of an investor varies in an SIP. When you invest in that scheme, the fund manager reinvests that money in those equity or debt instruments which he thinks are outperforming the market. He may be right or wrong in his calculations and therefore, an SIP investor may or may not get the desired results. Please note that when you make SIP deposits, your yields may fluctuate; you have no reason to control the reasons for those fluctuations.
- Nature of investors
FDs are meant for conservative investors i.e. those people who are risk averse. These people avoid taking risks and would like to settle for lesser yields or returns.
On the other hand, an SIP is preferred by both the conservative as well as the aggressive investors. Typically, investors who are flush with funds choose SIPs. They have a high appetite for risk and won’t mind losing money in the short or medium term.
Conservative investors also prefer SIPs. The beauty of investing in best SIP plans is that it matches your financial strength (disposable income), and risk taking ability. So if you have very less cash to spare, then choose the right SIP.
- Nature of returns
The returns generated from a Fixed Deposit are based on interest alone but in the case of an SIP, they are dependent on dividends and capital gains.
As seen earlier, when you invest 10,000 rupees for 12 months @5%, you get a yield of 500 rupees.
In the case of an SIP, you are rewarded through dividends or capital gains. You get a part of the profit of the investee company by way of dividends. When the NAV or Net Asset Value of the investee company rises, your investment value also rises and this phenomenon is called capital gains. You can sell off your units when the market is bullish and make a decent profit.
You are subject to income tax in the case of FDs. The income generated from your FD instrument will be taxed depending upon your tax bracket.
In the case of SIPs, your dividends or capital gains will be subject to long term capital gains tax.
Fixed deposits and SIPs vary according to several criteria such as yields and rates of interest, risk taking ability and tax.