Why do people prefer liquid funds to fixed deposits?

[Rajesh]

I know emergency funds aren't about high returns, but if the money just sits there for years, I'd like it to earn some decent returns. I've seen that liquid fund returns are pretty similar to those of fixed deposits. So, what's the real advantage of liquid funds over fixed deposits? With fixed deposits, especially sweep-in accounts, I can withdraw my money instantly. But liquid funds can't be redeemed on weekends or holidays, and the money isn't credited instantly during non-working hours - is that right? Are arbitrage funds even worth considering for emergency funds? I know I still have a lot to learn, but any insights or experiences would be really helpful.

[Vijay]

Until 2023, debt funds had this indexation advantage, which is gone now. That's where a lot of their popularity comes from. If you're in a taxable bracket, you have to pay tax on the interest you earn every year on fixed deposits. So, if you're in the 30% tax slab and you have a 10L fixed deposit earning 65k, you'll be taxed 30% on that interest. You have to pay that tax every year. With funds, if you don't withdraw the money, you don't pay taxes, and the interest compounds too. It's just easier and less hassle than dealing with interest statements and filing taxes. Arbitrage funds have equity taxation and returns similar to liquid funds, so that's an option, but the redemption takes T+2 instead of T+1. About the returns, I agree - there's a temptation to optimize for returns, but the emergency fund should be a small part of your portfolio. Liquidity and no drawdowns are way more important. If you're not in a taxable bracket, fixed deposits are fine too, I suppose. But I'd still prefer keeping them separate.

[Riya]

You can sign up directly on the AMC website and get instant redemption up to ₹50,000 (or 90% of the fund value, whichever is lower) via IMPS. It works 24/7, even on holidays and weekends, for overnight and liquid mutual funds. Zerodha offers instant redemption through WhatsApp, not through their Coin app. Arbitrage mutual funds are great for people in the 30% tax bracket - they can help defer or optimize tax liability effectively.

[Murali]

Taxation is the main difference. With fixed deposits, I have to pay tax every year. Here, I only pay tax when I withdraw the money.