Which category of debt fund would you suggest for a horizon of two-three years? I am seeking two-three per cent extra return over and above the fixed deposit returns.
The case for debt funds becomes much stronger if you are going to hold them for more than three years. There isn't a great advantage if you hold it for a lesser time period as the tax advantage kicks in only after three years. If you hold it for even a little more than three years and earn as much return as a fixed deposit, your post-tax return will be higher. Your gains will be indexed for inflation and you will be liable for taxation only on the gains post adjustment of inflation.
On choosing a fund - err on the side of caution. The interest rate outlook is still hazy. So only consider a short duration or a banking and PSU debt fund.