SIP vs. PPF: Better Investment Option

What are SIP and PPF?

SIP refers to the Systematic Investment Plan which is often used in the context of investment in Mutual Funds. PPF, on the other hand, refers to the Public Provident Fund. SIP is basically an investment strategy while PPF is an investment product.

Before deciding the better off in SIP and PPF, let’s dive into the details

PPF – Public Provident Fund

Investment

In PPF, you can invest a minimum of ₹ 500 to a maximum of ₹ 1.50 lakhs per year. The investment is covered under section 80C so you don’t need to pay any taxes on the invested amount as well as on the interest earned over time.

The investment amount can vary each year. You don’t need to invest the same amount each year and can increase or decrease the amount as per your needs and income. For example, you have invested ₹ 1,00,000 in 2018-19, next year you can invest any amount, it need not be ₹ 1,00,000. However, you have to invest a minimum of ₹ 500 to make the PPF account active.

Returns

Since PPF is a Sovereign Scheme, the returns from PPF are guaranteed and risk-free. The current rate of interest is 8% p.a. compounded annually.  Till March 2016 the interest rates were revised annually but now the quarterly revision happens.

Time Period

Once you start investing, you need to keep investing for 15 years and if you stop investing then your PPF account becomes dormant or inactive. You need to pay a penalty of ₹ 100 per year for the years in default along with the minimum contribution of ₹ 500 per annum. Upon completion of 15 years, you may either chose to close the account and withdraw money or stay invested for another 5 years (block of 5 years, you cannot close the account before completion of 5 years).

Premature Closure

Premature closure of the PPF account is allowed in special cases only. The criteria are:

1. Death: If the account holder dies, his/her PPF account can be closed before maturity.
2. Illness: In the case of the severe illness of the account holder or close family member, the PPF account can be closed after producing the valid documents.
3. Higher Education: For higher education, the account holder chose to close the PPF account after producing valid documents.

The penalty of Premature closing is 1% of the interest earned from the date of opening of PPF account.

Benefits

1. Tax-Savings
2. Guaranteed Returns
3. Partial Withdrawal after seven year
4. Loan against PPF balance after 3 years
5. Tax-free returns

Drawback

1. Low-Returns
2. Liquidity as the closure is not possible except for the above-mentioned situations.

SIP – Systematic Investment Plan

Investment

The SIP can be started with as low as ₹ 500 per month with no upper limit. You can also change your SIP amount as per your need. SIP offers greater flexibility as compared to PFF because apart from ELSS mutual funds, you can pause, resume or close the SIP whenever you wish.

Under ELSS mutual fund SIP, the lock-in period of three years has to be served i.e. you cannot withdraw or stop SIP before completion of three years. ELSS mutual funds also provide tax-savings under section 80C similar to PPF account but returns exceeding ₹ 1,00,000 are taxable as per the tax slab of the investor.

Returns

Since SIP is an investment tool to mutual funds and is subject to market fluctuations, no fixed and guaranteed returns can be ascertained. However, for a good return, you should stay invested for a longer time horizon. History shows that investment held for 10-15 years gives minimum returns of around 12% to 15% annually.

Closing of SIP

You can close SIP anytime and there is no penalty for the same. However, mutual fund companies levy exit load of around 1% on the exit before completion of 1 year. As said above, you cannot close ELSS SIP before completion of 3 years.

Benefits

1. Tax-Savings
2. Superior Returns over other investment avenues.
3. The flexibility of closing and withdrawing money.
4. A plethora of schemes to realign the portfolio.
5. Tax-free returns up to ₹ 1,00,000.

Drawbacks

1. Investment in the capital market is subject to market risk.
2. Lock-in period of three years for ELSS mutual funds.
3. Taxable returns over and above ₹ 1,00,000.

 Read: Public Provident Fund FAQs

SIP vs. PPF – Which is better?

Let’s decide with an example of two friends Sanyam and Ankita. Both of them had completed their education in January 2004, about 15 years and got jobs. They started their investment journey to fulfill their dreams through investment. Though both of them started-off together but arrived at a different product for investment. Sanyam, being a risk-averse and conservative investor wanted to earn a steady income while on the other hand Ankita being aggressive investors wanted to try her hands with riskier option. No surprise, Sanyam chose PPF for investment while Ankita chose ELLS Mutual Funds.

They both decided to invest ₹ 60,000 per annum for 15 years in their selected products. Here is what they have achieved at the end of their 15 years long journey.

Sanyam was investing ₹ 60,000 yearly in the Public Provident Fund and enjoyed a steady return of 8% p.a. on the investment between March 2004 and November 2011. For the next two years the rate of return peaked to 8.80% p.a. and then started declining at a faster pace to the lowest at 7.60% p.a and currently fetching 8% p.a. returns.

With a total investment of ₹ 9,00,000, Sanyam had accumulated around ₹ 18 lakhs in 15 years and the CAGR worked out roughly at 8.3% over the period. But since the PPF returns are almost certain and guaranteed, Sanyam knew what he was going to fetch.

As seen from the chart below, the earning has been rising smoothly over the years with steady returns

Coming to the Ankita’s investment journey, since she invested in one of the best mutual funds in which returns are not certain neither steady, the return on investment chart looks zigzag but her investment had grown at a CAGR of around 19.87%. She has accumulated whopping ₹ 50 lakhs with an investment of ₹ 9 lakhs.

Instead of investing lump-sum amount of ₹ 60,000 per annum had she invested the same amount through SIP of ₹ 5,000 monthly, the return would have been more by roughly ₹ 8 lakhs.

Had Ankita given up investing in ELSS mutual fund after seeing the 2008 carnation, when almost every equity portfolio got wiped out to half due to global turmoil in the market she would have never able to accumulate such humongous amount over the years? So even though the mutual funds are subject to market risk, investment for a long term maximizes the wealth creation potential.

Words of Wisdom

Neither a pure equity portfolio nor pure debt portfolio is a wise decision. The investment portfolio should be segregated in between equity and debt portion as per the risk-appetite of the investor. A young investor can go with 80:20 where 80 percent is equity portion and 20 percent is debt portion. The ratio should change with the age as the risk appetite of the investors reduces with the age.