I have received a sum of Rs. 5 lakh as rental deposit for three years. Which category of mutual fund should I choose? I don't want to loose the principal amount.
Invest in an ultra short duration bond fund or a short duration bond fund. Before investing check that the selected fund has low expenses. You can invest a lumpsum. The high credit rating of such funds will ensure that your capital does not go down in a three year period.
Compared to investing in a fixed deposit for three years where all the annual accrued interest will be taxable, a fixed income mutual fund will provide you tax benefit in two ways. First, you are not liable to pay any tax on the interim unrealised gains because you are not earning an interest. Second, after the three year period this investment will be treated as a long-term capital asset and indexation benefit would be available.