Credit risk funds are a type of debt fund that allocates a minimum of 65% of its assets to companies with relatively lower credit ratings. Due to their lower creditworthiness, these companies offer higher interest rates to offset the increased risk of default. This elevated default risk poses a greater level of uncertainty for the lenders.
The main feature of credit risk funds is that they are tax efficient. Investing in these funds benefits those with the highest tax slab because the tax levied for LTCG is 20%.
Other features of credit risk funds are
Higher Returns
Credit risk funds invest in riskier low-rated debt assets with premium coupon rates, offering higher returns, and appealing to investors seeking better-than-average investment returns.
Liquidity Risk
Credit Risk Funds face higher liquidity risk, requiring investors to find buyers for their funds, potentially causing liquidity issues. This higher risk makes it difficult to recover investments without loss of value.
Tax efficient
Credit Risk Funds are tax-efficient investment choices, especially for people that come under a higher tax bracket. The LTCG received from these funds is taxed at just 20%.