SIP V/S RD

So, a friend of mine called me up yesterday and asked me if he should go for a SIP or RD.

What do SIP and RD mean?

So, SIP stands for Systematic Investment Plan while RD stands for Recurring Deposit.

SIP basically means that you will invest some specified amount of money every month to a mutual fund for which you will be given a certain number of mutual fund units. The mutual fund can both equity as well as debt mutual fund but I will be talking only about equity mutual funds, i.e., mutual funds that invest the money they receive in Equity Shares of Companies traded on the Stock Exchange. Any profit that we get is due to an increase in the price of these shares and when you earn a profit on equity mutual funds, it is called Capital Gain as per Income Tax Act

RD on the other hand for simplicity can be thought of as an FD(Fixed Deposit) with the bank, the only difference being that in FD, you put all your money at one go, but in RD, you promise to invest a certain amount of money every month to the bank. Eventually, when the RD stops, what you earn is called Interest Income.

Why Capital Gain and Interest income term is important, we will come to later.

So now, for the fun part- which is better???

Here is a calculation is done by me that provides you with the exact calculations. I have assumed in the given case that investing in mutual funds provide a 12% year-on-year growth while investing in RD has been given a modest 6% p.a. growth rate according to prevailing and past interest rates.

The thing to note here is according to the Income Tax Rules of India, all interest income is taxed at the slab rate(if your yearly income > 15 Lacs, 30% tax) while Long Term Capital Gain is taxed only @ 10% no matter your income !!

So, if you are determined to plan for the long term, an SIP is definitely better than RD as in the long term of 10 years or more, mutual funds in India are seen to provide an average of 13–14% gain yearly.

So, if you do a ₹5000 SIP in equity-oriented Mutal Funds and are able to grow it at 12% p.a. for 40 years, the after-tax income is 2.38 Crore Rupees while you get only 65lakh rupees if you do an RD.

• Please note, the amount shown is not inflation-adjusted.
• Also, in certain cases, an RD can be better than SIP, which will be discussed in the upcoming posts