Mutual Funds vs Farmland: Which Offers Better Long-Term Returns?

When considering long-term investments, two popular options that frequently arise are mutual funds and real estate. However, a new real estate asset class has recently gained traction—farmland, which can be used for both commercial and residential purposes. Both mutual funds and farmland investments have their pros and cons, and it is essential for investors to understand these to make informed decisions. While mutual funds may be volatile and sensitive to economic fluctuations, farmland tends to offer more stability over time with steady income. 

According to the Association of Mutual Funds in India (AMFI), the Asset Under Management (AUM) of the Indian mutual fund industry has surged from ₹10.13 trillion on August 31, 2014, to ₹66.70 trillion as of August 31, 2024—a remarkable sixfold increase over just 10 years. This substantial growth reflects the rising confidence and trust Indian investors have in mutual funds as a preferred investment avenue.

Whereas, the commercial real estate opportunities in India have expanded significantly. In 2023, gross leasing in India's top seven markets surpassed the 60 million sq ft mark, a substantial 26.4% increase compared to the previous year. And according to Savills India, real estate demand for data centers is expected to increase by 15-18 million sq. ft. by 2025. 

Also, real estate investments particularly, Farmland investing offers a remarkable opportunity to diversify your holdings. You’ll get the perks of real estate investing, the security and confidence of gold investing, and a vital piece of your recession and inflation-proofing financial strategy.

Let’s dive deep into a comparative analysis of mutual funds and farmland to determine which might offer better long-term returns.

Understanding Mutual Funds as an Investments 

A mutual fund is a financial tool that gathers money from various investors and invests it in a range of securities, such as stocks and bonds. In India, mutual funds have given an average 20% returns over the past ten years and have shown strong market growth. The fees and expenses associated with managing a mutual fund are regulated by SEBI and must adhere to specified limits. 

Mutual funds can be a strong long-term investment due to their diversification, professional management, and accessibility. By pooling money from many investors, they invest in a wide range of securities, reducing risk and providing exposure to various asset classes with a relatively low initial investment. Fund managers handle the day-to-day investment decisions, which benefits those who lack the expertise or time to manage their own portfolios. Additionally, mutual funds offer liquidity, allowing investors to buy or sell shares on any business day, and are regulated to ensure transparency and investor protection. 

Understanding Farmland as an Investment

Farmland has become increasingly popular as a long-term investment. According to many experts, investing in farmland is a safe place to deposit money because they typically yield larger returns than other assets and provide investors with financial security. 

Farmland is a tangible asset that offers both income and potential appreciation, making it an attractive investment option. Investors can earn rental income by leasing the land for farming and may also benefit from value appreciation, especially in high-demand regions. Historically, farmland has been a solid hedge against inflation, as rising costs for goods and services can lead to increased crop values and higher rental income. Additionally, farmland tends to be less volatile compared to the mutual funds, providing more stability and long-term growth potential. 

Consistency of returns 

The average ten-year return for mutual funds in India is around 20%. This performance is closely linked to market conditions; returns tend to be higher during bull markets and lower during bear markets or economic downturns. A 10% return on a mutual fund is generally viewed as a good return. However, it’s important to remember that mutual fund returns are not fixed or guaranteed, and past performance does not ensure future results.

Looking at real estate, buying property remains very popular in India and over the 20 years, real estate has yielded an average return of 9%, with 15-year and 10-year returns at 6.5% and 4.8%, respectively. With real estate investments such as Farmland,  you’ll also avail yourself to an asset class that has a track record of maintaining value irrespective of the ups and downs of the economy. Better yet, farmland and crop value increases when inflation is on the rise, which can help offset market-related losses elsewhere in your portfolio. 

Liquidity 

Let’s evaluate both investment options in terms of liquidity.

Mutual funds are considered highly liquid because investors can sell their shares at any time and receive their money within days. However, liquidity can vary depending on the type of mutual fund and other factors such as if the fund has less commonly traded investments, it might impact the fund's liquidity. Overall, mutual funds provide high liquidity, low risk, and the potential for good returns. Fund managers help maintain liquidity by managing cash from new purchases, interest, dividends, and keeping a portion of the fund in easily sellable investments. 

When it comes to farmland as a real estate investment, it is considered a non-liquid asset. This means it can take months or even longer to receive cash from a sale. The selling process may extend beyond a month, as it involves finding a buyer, negotiating a price, and finalizing the sale. However, farmland investments can offer long-term appreciation trends. While farmland hasn’t always been easy to buy or sell, the introduction of invest-tech solutions and digital platforms continues to increase the liquidity of the asset class.

Power of Compounding

Compounding in mutual funds allows investors to earn interest on both their initial investment and the interest it generates, leading to exponential growth over time. Starting early maximizes this effect, giving your money more time to grow. Also, SIPs can help you take advantage of compounding. 

In farmland investments, it is important to note that compounding can work both for and against us. One way to take advantage of compounding in agricultural investments is through diversification. By spreading investments across different sectors and opportunities and regular review and adjustment a farmer can mitigate risk while still taking advantage of compounding. For example, a farmer may choose to invest in a combination of livestock, row crops, and renewable energy.

Initial Investment Needed in Mutual Fund vs Land 

Mutual funds allow for a low initial investment, enabling you to start a systematic investment plan (SIP) with as little as Rs. 100 per month. You can choose from a variety of mutual fund schemes that align with your risk profile and investment goals.

In contrast, farmland investments typically require a significant initial investment, including a substantial down payment, registration fees, and stamp duty, making it a less accessible option for many investors. But a simplified fractional ownership model allows investors to own a share of farmland without the complexities of traditional ownership, making it easier to diversify portfolios. 

Risk Involved in Investment 

The risks associated with farmland and mutual funds differ significantly due to the nature of the assets involved. Some of the risk involved includes: 

• Investing in both mutual funds and farmland involves distinct risks. Mutual funds are exposed to market risk, as their value fluctuates with the performance of underlying assets, whereas farmland values can be influenced by changes in agricultural markets, commodity prices, and broader economic conditions. 

• Management risk is also a factor for both: mutual fund performance depends on the expertise of the fund manager, with poor management potentially leading to underperformance, while farmland requires agricultural knowledge and market insight, where poor management can result in reduced yields and lower returns.

• Additionally, mutual funds are subject to expense ratios, where high management fees can erode returns over time. Lower fees tend to boost long-term performance, making it essential to assess cost structures carefully. Whereas with farmlands, continuous expenses such as property maintenance, taxes, and the need for agricultural inputs (fertilizers, irrigation, etc.) add financial pressure and can reduce net returns.

In general, So if you aim to invest in mutual funds or farmland, having a clear understanding of your risk tolerance and financial goals is paramount.  

Tax Liability 

In India, tax efficiency boosts investment appeal.

For equity mutual funds, gains exceeding Rs 1 lakh in a financial year are taxed at 10% as long-term capital gains (LTCG), while returns below this threshold are tax-free. For debt mutual funds, returns on investments held for less than three years are classified as short-term capital gains. For those held over three years, they are taxed at 20% as LTCG, but come with indexation benefits, which provide tax relief.

Farmland investments, however, come with distinct tax implications, these include stamp duty upon purchase, capital gains tax upon sale, and taxes on any rental income generated. While there are some tax advantages for loan interest and principal repayments, the tax environment for farmland is generally less favorable compared to mutual funds.

Investors are constantly in pursuit of the perfect investment. While the ultimate answer remains elusive, the decision between investing in real estate or mutual funds largely depends on your personal preferences as an investor. Factors such as risk tolerance, investment goals, time horizon (short-term vs. long-term), and return expectations all play a significant role in this choice.

For long-term investors, Pankaj Mathpal, MD and CEO of Optima Money Managers, emphasizes the better returns offered by mutual funds. Kumar Binit highlights the ease of managing mutual fund investments and the convenience of paperless transactions. Meanwhile, Jitendra Solanki, a SEBI-registered tax and investment expert, recommends considering commercial farmland as a solid investment option.

Both mutual funds and farmland are popular investment options in India that can help you achieve your long-term financial goals. But it’s important to carefully consider these factors before deciding where to invest. If you have surplus funds, you might also consider a diversified approach by investing in both options. This can help you balance risk and return while maximizing your investment potential.