As mutual fund (MF) investments are capital investments and are subject to market risks, it’s said that you should invest in MF that part of money, which you may spare for a long term. This would reduce the risk of capital loss.
However, the purpose of investing in a mutual fund (MF) scheme depends on the financial goal of an investor.
If you want to invest for accumulating money to fulfill a long-term financial goal, it’s better for you to invest in equity-oriented MF schemes for at least 5 years. More the investment period, the lower will be the risk of losing money and higher will be the chance of getting superior returns.
If the investment motive is to get inflation adjusted, tax efficient returns in the short term, it’s better for you to select a suitable debt-oriented MF scheme.
However, if you want to have a regular return from the MF investment – be it from short-term or long-term investment – you have two options – either to opt for the dividend payout option or to choose the option of Systematic Withdrawal Plan (SWP).
Asset Management Companies (AMCs) pay periodic dividends to the investors opted for the dividend payout option, once sufficient gains get accumulated in a scheme to pay. The timing and quantum of dividend depend on the accumulation of gains.
Systematic Withdrawal Plan
To get regular return, an investor may choose to withdraw money by redeeming some units in a periodic manner. The investor needs to set the timing and quantum of withdrawal.
Dividend Payout vs SWP
To know which one to opt for, you should know the difference between the two options on different parameters:
Compared to dividend payout, SWP is more flexible. This is because starting from the day of investment, the dividend is paid on a scheme only when the AMC decides to pay depending on accumulation of gains on the scheme. Depending on the profitability, the duration and quantum of dividend may vary.
On the other hand, an investor may choose from when he/she needs to start the SWP and also how much to withdraw in how many days/months. Depending on performance of the scheme, an investor may increase or decrease the withdrawal amount as well as the duration of periodical withdrawal.
Dividends are now treated as income in the hand of the receiver. So, the amount of dividend payout will be added to the total income of the investor. If an investor doesn’t have taxable income – including the dividend received – he/she doesn’t have to pay any tax on the dividend received. However, for an investor in the top tax bracket, 30 per cent tax plus cess and surcharge, if any, will be payable on the dividend income.
The amount withdrawn under SWP is subject to capital gain tax. If the withdrawal is made out of the units of debt-oriented MF schemes purchased within the past three years, the gain is treated as short-term capital gain and the amount withdrawn is added to the income of the investors and treated similarly as dividend payout. If the withdrawal is made after three years from the date of purchase of the units of debt-oriented MF scheme, the gain is treated as long-term capital gain and 20 per cent tax is levied after indexation.
In case the amount is withdrawn within one year from the date of investment in an equity-oriented MF scheme, the gain is treated as short-term capital gain and 15 per cent tax is levied on the gain. However, if the amount is withdrawn after one year from the date of investment in an equity-oriented MF scheme, the gain is treated as long-term capital gain and 10 per cent tax is levied on the gain amount in excess of Rs 1 lakh in a financial year.
So, in terms of flexibility and tax benefits, SWP has an advantage over the dividend payout option.