What is Liquid Fund

What is Liquid Fund and How It Works?

Liquid funds are a type of debt instrument that focuses its investment on fixed-income securities with a maximum maturity period of 91 days. These debt instruments include commercial papers, certificates of deposit, treasury bills, etc. A notable feature of liquid funds is that it does not include a lock-in period, and investors can withdraw their money after 24 hours from their redemption request. 

If we compare the risk factor of all the debt funds, liquid funds possess the least risk because these funds mostly invest in high-quality fixed-income securities that come with short-term maturity. Any investor with low-risk tolerance can easily invest in this fund. 

The two primary objectives of liquid funds are capital preservation while simultaneously offering liquidity to the investors. That is why the fund managers of liquid funds carefully select high-quality debt instruments with a maturity period of fewer than 91 days. Due to this short maturity period, interest rate changes do not heavily influence liquid funds.

Examples of the best liquid funds are Quant Liquid Plan, IDBI Liquid Fund, Mahindra Manulife Liquid Fund, and Union Liquid Fund. 

As per the latest guidelines of SEBI, the exposure limit for liquid funds in every sector is 25% and they can only invest in listed commercial papers. Liquid funds also need to keep 20% of their assets in liquid forms such as cash, money market securities, and cash equivalents. 

This article covers: 

Benefits of Liquid Mutual Funds

Liquid mutual funds come with many benefits, including limited or low risk, reduced expense ratio, high liquidity level, incredibly healthy returns, and more. Since their fund mainly targets AAA-rated instruments, they can provide incredible advantages to investors. 

1. Superior Returns

Investing in liquid funds is better than saving your money in a bank account or keeping it in a fixed deposit. By investing your money in a liquid fund, you can easily expect a 7% to 9% return on your investment. As a matter of fact, liquid funds are better than your average or common investment tools. 

2. Low-Risk

The high-quality debt instruments in which the liquid funds usually invest have a short maturity period (less than 91 days) which means the default risk of these instruments is extremely low, and they are mostly AAA-rated instruments. 

Overall the level of risk involved with liquid funds is incredibly low. You also need to note that the NAV of liquid funds doesn’t fluctuate much due to its low volatility level.

3. Retail Participation in Fixed Income Market

With the help of liquid mutual funds, even retail investors can now invest in the Indian fixed-income market. Previously, this area was monopolized by pension funds, banks, insurance companies, etc., but the arrival of liquid funds in the market changed the situation. 

4. Low Expense Ratios

Like any other mutual fund scheme, liquid funds also have an expense ratio, but their percentage is extremely low, and for the same reason, the profitability of this financial instrument is comparatively high. 

5. Minimum Investment

Another flexible yet attractive feature of liquid mutual funds is that they are extremely affordable. For example, if you want to invest in FD, then your minimum investment amount needs to be Rs. 5000, but you can start a SIP with a liquid fund using just Rs. 500, or you can also opt for the lump sum option by investing just Rs. 1000. 

6. Flexibility

Liquid funds have both dividends and growth options available for investors. As an investor, if your investment objective is capital appreciation, then you can certainly invest in the growth liquid funds, and if you want regular income from your investments, then you need to select the dividend option.

7. High Liquidity

As the name of the fund implies, liquid funds are highly liquid in nature, which means you won’t have to put much effort into transforming the assets into cash. After you have requested redemption, it will only take Transaction+1 day (on working days) to finalize your request. Since there is no lock-in period, the fund house won’t hold off your funds for a specific period. 

8. Low Exit Loads

Although the popularity of debt instruments is extremely high among seasoned investors, they are equally famous for their comparatively high exit load. However, a liquid mutual fund is an exception. 

If you choose to invest in a liquid fund, remember that you can exit after 7 days without paying any kind of penalty, but if you redeem your money before that, an exit load will be applied to your investment. 

9. Great for Senior Citizens

Senior citizens tend to invest their money in fixed deposits, Senior Citizens saving schemes, or Post office savings schemes but the drawback of these schemes is that they come with a minimum lock-in period. The same is not true for liquid funds, which is why they can be a great investment tool for senior citizens. 

10. Low-Interest Rate Risk

The interest rate fluctuations of the market cannot predominantly influence liquid funds because their underlying assets (debt instruments) mature within 91 days. For the same reason, the Net Asset Value of a liquid fund does not go through many changes, unlike other types of mutual funds. 

11. Real-time price discovery

Usually, the market price or NAV of the mutual funds is not available on the weekends but liquid funds are an exception. You can see the NAV of the liquid funds even on Saturdays and Sundays. Moreover, liquid funds are the only kind of mutual funds whose NAV is calculated for all 365 days. 

12. Perfect for Systematic Transfer Plan (STP)

If you want to invest in an equity fund through STP or a systematic transfer plan, then liquid funds are the most ideal option for you. While investing in equity mutual funds, you need to be extremely careful because of their high volatility level, and lump sum investments are not a good choice for the same reason. 

If you invest your money in liquid funds and then use STP in order to transfer the fund from the liquid funds to the equity funds, then you can take advantage of the cost-averaging process. In the meantime, you will also enjoy the benefits of liquid funds. 

Disadvantages of Liquid Funds

The disadvantages of liquid funds can be tax implications, and more importantly, there is no guarantee that your capital will remain protected. The underlying assets in which the liquid funds invest are directly connected to the market, so the protection of your capital is not guaranteed. 

1. No Guarantee

A liquid fund cannot guarantee the protection of your capital amount. Since liquid funds are linked with the market, they can come across certain fluctuations, and that is why there is guaranteed safety for your investment fund. 

For example, if you have invested Rs.10000 in a fixed deposit, you will definitely receive your capital investment along with interest at the end of the lock-in period, but investing in liquid funds will not assure the same. However, you also need to note that liquid funds usually invest in AAA-rated assets, so it is highly unlikely that anything will happen to your investment fund. 

2. Taxation

Short-term capital gains that you usually receive from liquid funds directly come under your income, so you need to pay taxes as per your income slab. For the same reason, if your income is high, you may have to pay more short-term capital gains tax. The long-term capital gains are also taxed at 20% after the investors receive the indexation benefit. 

3. Management Fees

Since liquid funds are essentially mutual funds and are managed by the fund houses, these fund houses ask for management fees from the investors. However, unlike other types of mutual funds, liquid funds’ expense ratio (which includes management fees, asset allocation fees, etc.) is negligible. 

Liquid Mutual Funds Taxation

The investors of liquid funds receive capital gains as well as dividends from their investments. In the case of dividends, the investors do not need to pay any kind of taxes. However, in liquid funds, taxes are applicable in the case of both long-term capital gains and short-term capital gains.

  • If an investor of liquid mutual funds sells the units of their mutual fund scheme within 3 years of their investment, then they will become eligible for short-term capital gain taxes. In this scenario, the income of liquid funds will be considered as income and they need to pay taxes according to their income tax slab rate. 
  • If the investor sells the units of the liquid mutual fund after holding onto it for more than 3 years, they will become eligible for long-term capital gain taxes. However, the investor will receive an indexation benefit in this circumstance, and then the capital gains will be taxed at a flat rate of 20%.

Best Liquid Mutual Funds to Invest in 2024

Here is a list of top liquid mutual funds you can invest in 2024:

Serial No.Name of the SchemeExpense ratio (%)NAV (in Rs.)3Y CAGR (%)AUM (In Cr.)
1.Quant Liquid Plan0.1336.194.91Rs. 1,613.51
2.IDBI Liquid Fund0.152,418.014.49Rs. 763.09
3.Mahindra Manulife Liquid Fund0.071,462.234.48Rs. 514.40
4.Union Liquid Fund0.202,165.884.48Rs. 1,657.78
5.Nippon India Liquid Fund0.215,497.194.43Rs. 25,358.05
6.Tata Liquid Fund0.143,545.484.43Rs. 13,449.41
7.UTI Liquid Cash Plan0.153,682.604.43Rs. 25,350.35
8.Edelweiss Liquid Fund0.192,899.784.43Rs. 1,493.80
9.Baroda BNP Paribas Liquid Fund0.212,591.034.42Rs. 7,013.61
10.Aditya Birla SL Liquid Fund0.16362.364.42Rs. 35,226.23

How to Invest in Liquid Funds? 

You can easily invest in liquid funds through Alice Blue. It offers investors a range of features and tools to help them make informed investment decisions and manage their investments according to their financial goals.

Here are the steps to invest in liquid funds: 

  1. The first thing you need to do is open a Demat account through Alice Blue. All you need to do is visit their website or install their application on your mobile phone. 
  2. Fill out the application form and provide all your personal information such as name, email address, mobile number, etc. 
  3. The next step is to complete the KYC by providing Aadhar, PAN card details, bank details, etc. 
  4. Once the KYC is completed, you can log in to the Alice Blue Mutual Funds Platform and start browsing and investing in mutual funds.

Do you want to expand your knowledge about mutual funds? We’ve got a list of must-read blogs that will help you do just that. Just click on the articles to find out more.

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What is Liquid Fund- Quick Summary

  • Liquid mutual funds are investment schemes that mainly invest in debt instruments and the maturity period of its underlying assets is less than 91 days.
  • Unlike fixed deposit schemes, liquid funds do not have any kind of lock-in period and the returns are also higher than fixed-income instruments. 
  • The volatility rate of liquid funds is extremely low, and their NAVs are updated daily (even during weekends).
  • The expense ratio of liquid funds is extremely low and has both dividend and growth options. 
  • For senior citizens, liquid mutual funds can be a better investment option than Senior Citizens’ savings schemes or Post office savings schemes.
  • While you need to pay taxes on dividends, you will need to pay short-term capital gains tax and long-term capital gain tax if you invest in liquid mutual funds.

What is Liquid Fund- Frequently Asked Questions

1. What are Liquid Mutual Funds? 

Liquid mutual funds are the type of debt funds that invests in short-term instruments that have a maturity period of not more than 91 days. The underlying instruments are T-bills, CPs, CDs, etc. 

2. Are Liquid Mutual Funds Safe?

Yes, liquid mutual funds are comparatively safer than any other debt mutual funds because they usually invest in high-quality AAA-rated debt instruments. 

3. Is it Good to Invest in Liquid Funds Now?

You can invest in liquid mutual funds right now because they are excellent short-term investment schemes offering better returns than FD without applying any lock-in period. 

4. Which Liquid Funds has the Highest Returns?

Some of the liquid funds with the highest returns include:

  • Edelweiss Liquid Fund (3Y returns 4.96%)
  • PGIM India Liquid Fund (3Y returns 4.96%)
  • Quant Liquid Fund (3Y returns 5.25%)
  • Franklin India Liquid Fund (3Y returns 4.91%)
  • Aditya Birla Sun Life Liquid Fund (3Y returns 5.0%)

5. Is Liquid Mutual Funds Better than a Mutual Fund?

Although liquid funds are less dynamic in nature than other mutual funds, the other types of mutual funds (especially equity mutual funds) offer better returns on investment. 

6. Is Liquid Fund taxable?

Yes, short-term capital gains on liquid funds are taxable because they are part of your income, and you must pay taxes according to your income slab. 

7. Is SIP allowed in Liquid Funds?

Yes, investors can use Systematic Investment Plan in order to invest in a liquid fund of their choice. 

Take your understanding of mutual funds to the next level! Explore our curated collection of engaging blogs that empower your investment decisions. Click now to embark on this enriching journey!

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