If you are looking to begin your mutual fund investment journey, it’s essential to have the correct set of knowledge that would assist you in forming better strategies for your investment. And an important thing for you to know is the difference between debt funds and equity funds. Discussed here is a comparative analysis between debt mutual funds and equity funds. 

What is an equity fund?

Equity mutual funds primarily invest in the shares of companies and linked securities such as derivatives, which trade in the stock market. The fundamental goal of equity investing is capital appreciation. So, equity tends to provide higher returns over a longer time period by a wide margin. However, over the short run, as compared to debt funds, equity funds may be volatile in nature. So, when you invest in equity mutual funds, ensure to remain invested for a long time period of at least five years to generate good returns. 

There are distinct kinds of equity fund categorisation, which are based on segments of market capitalisation i.e., small-cap, mid-cap, and large-cap. Large-cap equity funds as per market capitalisation primarily invest in the 100 largest companies. Mid-cap equity funds as per market capitalisation primarily invest between 101^st and 250^th companies. Small-cap equity funds as per market capitalisation primarily invest in companies ranked beyond 250^th.

What is a debt fund?

Debt mutual funds invest in money market and debt instruments. Money market instruments are commercial papers, treasury bills, deposit certificates, etc. Debt instruments include G-secs, non-convertible debentures, corporate bonds, etc. The basic goal of investing in the money market or debt instruments is getting income in the form of interest. One of the basic distinctions between debt and equity mutual funds is debt funds are less risky and aim at preserving your capital. 

Like equity funds, debt funds have various variants too. A few of the important debt mutual fund variants are overnight funds, liquid funds, ultra-short duration funds, short-duration funds, mid to long-duration funds, gilt funds, etc.

Here are the key differences between equity and debt mutual funds 

Features	Equity funds	Debt funds
Instruments	Invest in equity and equity-linked instruments.	Primarily invest in money market instruments, certificates of deposit, commercial papers, treasury bills, corporate bonds, non-convertible debentures, government securities, etc.
Investment return	Relatively higher and inflation-beating returns than debt funds over a long-term period.	Low to moderate returns compared to equity mutual funds.
Timing	Timing to invest in an equity fund is important as stocks are dynamic and subject to volatility.	Timing to invest in debt funds is not of much importance. The duration for which you remain invested in debt funds is more important.
Suitability	Equity fund investments are best for long-term investors with moderate to high risk tolerance levels. So, to meet your long-term goals like retirement or corpus creation for your child’s wedding or education, an equity mutual fund is a must-have instrument in your investment portfolio.	Debt mutual funds are best for low to moderate risk tolerance level investors. You can also invest in debt mutual funds to meet your short-term goals with a time horizon of up to three years.
Taxation	Short-term capital gains in equities are when you hold the units for less than a year and they are taxed at 15%. Long-term capital gains of up to Rs 1 lakh are tax free and a gain of over Rs 1 lakh is taxed at 10% without any indexation benefits. To save tax, you can invest in equity-linked saving schemes as under section 80C, a tax deduction of up to Rs 1.50 lakh is allowed.	Gains on debt fund units held for below three years are short-term capital gains and are taxed according to your income tax slab. Long-term gains on debt funds levy a tax of 20% after indexation benefits. There is no way to save taxes in debt mutual funds.

Ending note 

So, with the above information in mind, now is the right time for you to begin investing in equity and debt funds to form a strong investment portfolio. Doing so would assist you to grow your investments and keep your future financially secure.