Non-Resident External (NRE) accounts are typically used for income earned outside India. Interest is usually tax-free in India (subject to current rules) and the principal plus interest is freely repatriable, subject to documentation.
Non-Resident Ordinary (NRO) accounts are used for income that arises in India — rent, dividends, pension, etc. Interest is taxable in India. Repatriation of the balance is allowed within limits and after tax compliance.
Which account you use for mutual fund investments affects how you fund the purchase and how you bring money back later. Always check current RBI and tax rules, and discuss your specific residency and tax status with a qualified adviser.