What Are Fixed Maturity Plans (FMPs)?

Advantages, Disadvantages, and Tax Benefits Explained

Introduction to Fixed Maturity Plans

Fixed Maturity Plans (FMPs) are a category of closed-ended debt mutual fund schemes designed for investors who seek predictability of returns along with tax efficiency, especially when compared to traditional bank fixed deposits (FDs).

This explanation is based on a note originally published in The Economic Times, and aims to give a clear understanding of how FMPs work, their benefits, limitations, and the role of indexation in improving post-tax returns.

What Is a Fixed Maturity Plan (FMP)?

An FMP is a closed-ended debt mutual fund scheme where:

• The tenure of the scheme is aligned with

• The maturity profile of the underlying debt instruments

For example, a one-year FMP will invest in debt instruments that mature on or before one year.

This structure largely eliminates interest rate risk and reinvestment risk, as the securities are generally held till maturity.

Instruments Typically Used in FMPs

FMPs invest primarily in:

• Certificates of Deposit (CDs)

• Commercial Papers (CPs)

• Money market instruments

• Corporate bonds

• Bank fixed deposits

While the yields on wholesale debt instruments may be marginally higher than retail FD rates, FMPs charge fund management expenses, resulting in returns that are often comparable to FDs on a pre-tax basis.

The real differentiation lies in tax treatment.

Advantages of Fixed Maturity Plans

1. Superior Post-Tax Returns

The most significant advantage of FMPs over bank FDs is tax efficiency, particularly for investors in higher tax brackets.

• Interest from bank FDs is taxed at slab rates

• FMP returns are taxed as capital gains

2. Indexation Benefit

For FMPs held for more than one year, investors can opt for long-term capital gains tax with indexation.

Indexation allows the purchase price to be adjusted upward using the Cost Inflation Index (CII) published by the Income Tax Department of India, thereby reducing taxable gains.

Illustration:

• Assume inflation at 6%

• Actual return: ~10%

• Indexed gain: ~4%

• Tax @ 20.6% on 4% = significantly lower effective tax

• Resulting post-tax yield improves meaningfully

3. Double Indexation Benefit

Investing in FMPs towards the end of March can offer double indexation, provided the holding period spans three financial years, even if the actual duration is slightly over one year.

Example:

• Investment date: 26 March 2012

• Maturity date: 5 April 2013

• Financial years involved:

  • 2011–12 (investment year)

  • 2012–13 (holding year)

  • 2013–14 (redemption year)

This allows indexation for two years, potentially resulting in:

• Very low taxable gains, or

• Even a long-term capital loss, which can be set off against other long-term gains

Such opportunities are commonly available in March-launched FMPs.

4. Predictability of Returns

Since securities are generally held till maturity, FMPs provide:

• Better visibility of returns

• Lower volatility compared to open-ended debt funds

Disadvantages of Fixed Maturity Plans

1. Lack of Liquidity

• FMPs are closed-ended

• Though listed on stock exchanges, they are largely illiquid

• Any exit before maturity usually happens:

  • At a discount to NAV, or

  • With no buyers available

Investors should invest only surplus funds that are not required before maturity.

2. Credit Risk Still Exists

While interest rate risk is minimised, credit (default) risk remains.

• Fund houses are not allowed to publish indicative portfolios

• Investors cannot be fully certain about the credit quality of underlying papers

• Unlike bank FDs, FMPs do not have deposit insurance

3. No Capital Protection Guarantee

• Bank FDs offer deposit insurance (up to the applicable limit)

• FMPs do not provide any such statutory protection

Hence, selection of reputed fund houses is crucial.

FMPs vs Bank Fixed Deposits (At a Glance)

Who Should Consider FMPs?

FMPs may be suitable for:

• Investors in higher tax brackets

• Those with clearly defined time horizons

• Investors seeking tax-efficient debt allocation

• Individuals comfortable with holding till maturity

Key Takeaway

Fixed Maturity Plans are not risk-free substitutes for bank FDs, but they can offer superior post-tax returns when used appropriately, especially with indexation benefits.

Understanding liquidity constraints and credit risk is essential before investing.

Disclaimer

This article is for educational and informational purposes only. It does not constitute investment advice. Mutual fund investments are subject to market risks. Please read all scheme-related documents carefully and consult your financial advisor before investing.