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Importance of EPF & PPF in Debt Portfolio

 Many of us have this question .So, let me start by listing some details of the two instruments.

The Employees’ Provident Fund, or EPF, is a retirement fund for organised sector employees, managed by the Employees’ Provident Fund Organization, or EPFO.

Under the EPF scheme, a salaried employee pays 12% of basic salary (plus dearness allowance) every month, and an additional 12% is contributed by the employer. In total, 24% goes towards the EPF account. The interest rate is currently fixed at 8.5%.

The Public Provident Fund, or PPF, is a government-backed small-saving scheme. Though started in 1968 with the objective of providing social security during retirement to workers in the unorganized sector and for self-employed individuals, it has become a very popular tax-saving instrument. The interest rate is 7.1%; this is fixed every quarter.

Are these debt instruments?

A debt investment is one that offers a fixed return to the investor with a promise to repay the principal over a predetermined tenure. There are variations but this is the broad premise. Going by that definition, both the EPF and PPF are debt investments – an assured rate of return, and the principal will be returned over a predetermined tenure.

So yes, they are both part of the debt portfolio. BUT, they cannot be the only part of your portfolio. The reason being that both these investments have very long lock-in periods. They score on safety since they are both backed by the government. They have an assured return. But liquidity is not their strong point. The lock-in periods are long and premature withdrawals are applicable only for specified and predetermined situations. To compensate, debt funds must form a part of your portfolio.

How should you decide which debt funds?

Personally I don't like debt funds because for me Debt means safety of principal & interest , neither of which is guaranteed by Debt Funds. Still it might be prudent to carefully invest in some of them 

You can then select funds that are low on both, duration and credit risk. Do not deviate from this rule and you will avoid credit risk and interest rate risk. The advantage of such debt mutual funds is that investors get the benefit of lower tax rates (if held for > 3 years) and market returns. The appreciation in these funds is not only from the accrual of interest income, but possible capital appreciation due to interest rate movements.

Once you have the above in place, and you have cash to spare, then you can look for higher returns. But do not exceed 20% of your debt allocation to such funds. Here are some suggestions:

Gilt funds. These funds have no credit risk or risk of default. However it can have Interest Rate risk and you might loose your capital in case you redeem it in a bad time. If you expect interest rates to dip in the future, you could consider a tactical bet here.

Dynamic bond funds can also be considered.

Credit risk funds can be opted for by a seasoned investor who is willing to take that extra risk.

Remember that fixed-income portion of the portfolio is predominantly focused on capital preservation and protecting the purchasing power of the invested corpus. 

In case you have senior citizen parents consider investing in SCSS and Pradhan Mantri Vaya Vandana Yojna. Remember that designing a FAMILY PORTFOLIO is always better than a PERSONAL PORTFOLIO , atleast from the Taxation point.

It’s a personal choice.

The type of funds you select will depend on your holding period and your understanding of their strategy.

A family member who does not understand debt funds only has money in EPF and PPF. On the other hand, many young guns tell me that the PPF and fixed deposits have no place in his portfolio because the debt allocation is taken care of by debt mutual funds and EPF.

My debt portfolio comprises a fixed deposit, debt funds (very small part ), as well as PPF ( No EPF as I am not an employee) . 

Do you have an Emergency Fund?

To ensure that you do not dip into your Core Portfolio during times of emergency, I suggest that you should have an Emergency Fund. This is so as in case you urgently need money, you may have to sell your equity investments which would be a problem if the market is at a low.

For Emergency Fund I would suggest that convert your savings account a flexi / sweep account wherein the amount over and above a benchmark balance is automatically put in FD and in case of requirement you can just draw a cheque and need not have to fill the FD closure form. I would suggest that one should keep atleast NINE months expense requirements in the Flexi Account.

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