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Saira will be going to college in three years. Though her father Avinash has diligently saved for her education for the last couple of years, the fund would fall short by ₹10 lakh for the course she desires to take up.
The goal is time-bound is time bound, i.e. it cannot be delayed under any circumstances, said Arijit Sen, Sebi-registered investment advisor, co-founder merrymind.com, adding, “so, the main objective here is capital preservation with a reasonable growth."
For such a goal it is best to stick with debt funds, Sen added. On choosing debt funds over equity, you can tackle the equity market volatility. On the other hand, picking it over FD, you get the taxation benefit.
It is better to stick with Duration Funds and Dynamic Bond Funds for this particular goal, he said, further noting that they provide around 6 to 8% average rate of return.
Here is how much you should invest through an SIP:
To create such a fund in three years time, with an average rate of return of 6%, Avinash has to invest ₹25,295 every month through an SIP.
Meanwhile, in case, the rate of returns are a little higher, say 8%, then he has to invest ₹24,506 per month.
Which funds should I pick up:
Sen further suggested, Avinash can pick up Kotak low duration fund if he wants to stick with low duration fund category, or HDFC ultra short term, under ultra short term category.
Further, if Avinash is willing to take a little more risk, then he can pick up ICICI all season bond funds.
Taxation
One part, Avinash should calculate while saving for an urgent goal like children's education is the taxation factor.
On holding a debt mutual fund for 3 years or more, the gains are considered as long term capital gains, for which the returns are taxed at 20%. Over that the investor gets the indexation.
Explaining indexation, Sen said, the cost of Inflation Index (CII), notified by Govt. of India every year, allows to adjust (increase) the cost of investment (purchase price) with the inflation factor and bring it to current level. Thus, the adjusted cost of investment is considered along with market price (selling price) to arrive at the capital gains tax liability
For example, let's suppose Avinash earns 7% return on a debt fund, i.e. 21% for 3 years, and the inflation in the meantime is 5% per year. Due to indexation, the capital investment of ₹100 will be recalibrated as ₹115. So though the gains would be ₹21, the net gains will be considered ₹6. And on that, you would pay 20% tax, i.e.Rs1.20 as tax, in total.
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