The SWP enables investors to withdraw a specified amount regularly, thus addressing two shortcomings of the dividend option viz., quantum and timing.
In order to receive a regular income from their mutual fund investments, investors are often in a dilemma about whether they should choose the dividend option or a systematic withdrawal plan (SWP).
The dividend option available on equity and debt mutual fund schemes was quite popular among investors until dividend distribution tax (DDT) was introduced from June 1, 2013. With this tax, monthly income plans (MIPs) or debt funds with dividend payouts became less attractive. So, should one opt for systematic withdrawal plan (SWP) or choose to receive dividend?
Before comparing both options, lets first understand what an SWP is and what its features are.
What is an SWP?
A number of mutual fund houses give investors the option to receive a regular income from their investment in a scheme by withdrawing a fixed amount at regular intervals, on pre-specified dates for fix tenure. Thus the amount, date and period are pre-fixed.
Which one to choose and why?
Your cash flow requirements and tax efficiency will be the two factors that will determine whether you should opt for dividend or the SWP option. Let us look at these factors separately.
Although the dividends received by the investor are tax free, all non-equity investments attract DDT of 28.84%. The DDT is paid by the AMCs but eventually, it is borne by the investors. In an SWP, each withdrawal is treated as a sale. Withdrawal within 3 years from the date of purchase will be treated as a short term capital gain. The gains will be added to the investor’s income and taxed accordingly. Withdrawal beyond 3 years from the date of purchase will attract long term capital gains tax.
But since the investor will enjoy indexation benefit, it is likely that investors are going to pay a lower amount in tax, based on the indexed cost. For equity funds, the short term period is 1 year and there is no capital gains tax on long term gains.
Regular cash flowsIn the dividend option, the dividend pay-outs are based on the distributable surplus available under the scheme and are at the discretion of the fund manager. Secondly, the date and amount of the dividend payment might not be in sync with the investor's needs. The SWP enables investors to withdraw a specified amount regularly, thus addressing two shortcomings of the dividend option viz., quantum and timing. There is a surety in SWP that you will get a regular inflow.
For equity funds, there are certain plans under which the frequency and dividend payout is fixed and an investor could opt for this choice as there is no DDT in the case of equity funds. For debt funds however, it is not so.
Let’s understand this with an example:
Withdrawal/Dividend Payout Period: Dec – 2014 to Nov 03, 2017Withdrawal/Dividend Payout Frequency: Quarterly
|Debt Fund Growth plus SWP Option||Debt Funds -Dividend Option||Balanced FundGrowth plus SWP Option||Balanced Fund - Dividend Option|
|Total Withdrawal/Dividend Received (Rs.)||1,72,000||2,72,000|
|Tax on Capital Gain (Rs.)||4,411||-||58||-|
|Value as on 03 Nov (Rs.)||10,91,091||10,26,759||10,16,845||9,20,511|
|XIRR (Post tax)||8.73%||6.97%||10.22%||7.05%|
The above table clearly depicts that one should go for SWP from a growth scheme rather than opt for a dividend to receive a regular income. However, investors should choose the scheme on which they will avail SWP, taking into consideration their time horizon and risk appetite.
Times are changing. As investors, we need to understand the options or facilities available to us and be open to accept these ideas to manage our wealth and our lives in a better way. SWP is an important tool for fulfilling your need of regular income. We hope the next time you are thinking of regular income, the idea of SWP shall cross your mind.(The author is director of Ventura Securities)