The concepts short term and long term are classifications of investments based upon their time period. The word 'term' principally states the time duration of the investment. Now there are no exact definitions for long-term and short terms. That no official figure in form of number of days, months or year can be used to define or state a said investment to be long or short. Instead the definition is often based on common connotations and several meanings which have been stated by the different companies, governing bodies and investment experts. While understanding the difference between short term vs. long term investment, establishing a logical and proper timeline and segregation of the two concepts is quite difficult. However, here's a brief explanation on the abstract time differences.
Meaning and Definition
From the point of taxation and legal perceptive, a short term investment is the one that does not exceed 12 months or one singular accounting year. On the other hand, the investments which exceed more than 12 months are long-term ones. This is the legally and officially recognized meaning and difference in short term and long term investments. You will need to use this logic and difference in official documents and while filing income tax returns or declarations of investments. Please note that investments which are subject to immediate liquidation such as stocks, money market instruments and also Forex currency are subject to the same logic. That is if your buying and selling transactions have taken place within those 12 months, then you will have to deem these investments to be short term investments, however if the time period in the two transactions is more than 12 months then you will have to claim the investments as long-term ones.
Apart from the 12 month rule, there are some different definitions which are forwarded and followed by people. For example, for the fund based investments, such as annuity, insurance and mutual fund, a fund which as a 5-7 years time period, is said to be a short term investment. On the other hand, funds exceeding 5-7 years time span are said to be long-term investments.
Practical Applications
There is genuine difference in the applicability of long term and short term investments. The primary difference is that the long-term investments tie you down, compelling you to take up payments for a very long time, though in the latter stages of such investments, the returns are rather handsome. Have a look:
- In practical application, stocks and Forex with some minor mutual funds are considered to be short term investments. The rule of thumb says that more the investment more is the rate of return going to be. On the other hand, long-term investments such as mutual funds, insurance, annuity, collective investment schemes and even a mortgage loan have a longer payment structure and an even longer maturity period. These investments have a relatively low payment/investment volume, but the returns are substantial.
- Depending upon the instruments, the short term investments are more risky, since a larger volume of money is put at stake and there no hedge or cushion for such a risk. On the other hand, long-term investments are professionally managed and tend to have a cushion or hedge, which prevents its losses.
- The percentage return on investment for a short term investment tends to be higher than a long-term investment.
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