In the last blog on Investment Planning I had mentioned
about creating an emergency fund. The size of the emergency fund should ideally
be equal to 3 to 6 months of one’s monthly income. While liquidity should be
given utmost importance, one can also try to earn decent returns from the
emergency fund. Today we will explore the various options of maintaining an
emergency fund.
Cash: Cash is king in emergency fund. One
should keep some cash at home. This is necessary in the event of ATMs running
out of cash or during natural calamities like floods where reaching an ATM or
bank is not feasible.
Pros: Cash-in-hand can come handy in case of natural
calamities or events like demonetisation. It is the most liquid option
especially in case of ATMs/banks not available in the vicinity of your
residence.
Cons: Cash at home does not earn any returns. Also there is
risk of losing the cash in case of theft.
Bank accounts: Bank accounts with net banking
facility and debit cards are also a good option. Some banks also provide fixed
deposit with sweep-in facility. Sweep-in FDs can be instantly redeemed. There
is no lock in period for these FDs.
Another interesting option is of Payment Banks. Payment
Banks (PB) accept deposits up to Rs. 1 lakh. In the view of lesser infrastructure
costs, these banks offer interest around 7% on the account balance. Airtel
Payment bank, PayTM are two operational PBs among the 15 approved PBs. While
Airtel pays 7 % interest, PayTM pays 4% interest.
Another option that one can consider is Digisavings bank
account by Development Bank of Singapore. Even though this is not a PB, it
still offers 7% interest on amount up to Rs. 1 lakh. The only downside of DBS
is that it doesn't have any branches and in case of any technical issues it
will be difficult to access your funds.
Pros: With most merchants, hospitals adopting the digital
payment methods of swipe machines, PayTM etc debit cards, virtual cards are the
way to go. Also the underlying balance earns returns.
Cons: Interest earned through FDs is to be added to your
income and taxed as per your tax slab. Interest earned through Savings Account
is exempted up to Rs. 10000. Income in excess of Rs. 10000 is to be added to
your income and taxed as per your tax slab. So plan the amount that should be
maintained in the savings account in the view of taxation.
Gold: The yellow metal is all time favorite
in the Indian household. Gold is usually bought & stored as gold coins,
bars or in the form jewelry. Gold can also be bought in the digital form of Sovereign
Gold Bonds issued by Government of India, Gold Exchange Traded Funds
(ETFs), through online platforms like Riddhi Siddhi Bullions Limited (RSBL), PayTM etc. While RSBL & PayTM
offer the option of converting E-gold to gold coins, Sovereign Gold Bonds and
ETFs cannot be converted to physical gold.
Pros: Gold has universal acceptance unlike currency. It can
be easily used as collateral to raise funds. And in the rare event of
displacement due to war, natural calamity gold can come to the rescue.
Cons: Like cash even gold is prone to theft. Also to
safeguard gold one might have to buy safety lockers or rent lockers in bank.
Both these options entail expenses.
Debt Mutual Funds with
instant redemption: The
duration between redemption from mutual funds and amount actually getting
credited to your account depends on the type of mutual fund. For debt mutual
funds this duration is T+1
where ‘T’ is the business day on which the order is executed. Few mutual fund
companies usually known as Asset Management Company (AMC) have come up with
option of mutual funds with instant redemption. These are basically Liquid
Mutual Funds categorized under debt mutual funds with lowest risk. The returns
range from 7-8%. Currently Birla Sunlife and Reliance Nippon Capital provide
the instant redemption facility. Reliance AMC provides facility of debit card
which is linked to your liquid fund.
Pros: The duration of redemption to transfer is about 30
minutes. This even works on non-business days that are weekends, bank holidays.
The rate of return is also slightly higher than FD rates. In case of Reliance
fund, redemption order can also be placed using the App of the AMC. More AMCs are expected to follow the suit.
Cons: Redemption within 36 months of investing are treated
as short term capital gains. These are to be added in your regular income for
taxation. So each swipe or ATM withdrawal which essentially leads to redemption
will be a taxable act.
Arbitrage funds: The meaning of arbitrage is to buy a
commodity from one market and sell in other to earn profits due to the price
difference. Arbitrage funds are equity funds which spot and exploit the price
differences in a stock in various markets to earn profits. They also invest in
short term deposits, in absence of arbitrage opportunities, to earn returns.
Pros: As they invest at least 65% of the portfolio in
equities, they are treated as equity funds. Redemption within 1 year of
investing are short term capital gains and are taxed 15%. Long term capital
gains (the gains if the redemption is after 12 months) are tax free.
Cons: For equity mutual funds the duration for redemption
is T+3 i. e. 3 days from the order getting executed. So the funds would not be
available at short notice as in case of cash. So this option could be more
beneficial for people in the higher tax brackets.
So these are the options to maintain the emergency fund.
One should use the best possible combination of the various options mentioned
above. This will serve the purpose of liquidity and earn decent returns.
P S: If you like this blog, please share it with your
friends and family. And if you want to reread and share the earlier blogs
please use the link given below. In case of you have any queries or you want to
share any experiences or alternate views please do comment on the blogs.
