Over the years there have been several positive changes in mutual funds which has made investing in them a lot simpler and smarter. Thanks to SEBI categorization of now investors can identify the differences between two different mutual fund schemes even if they sound identical or make investors feel that they are one and the same. Not all investors invest in mutual funds for wealth creation of accumulated corpus. Some seek regular income just like a monthly salary from their mutual fund investments.
There are two ways for investors to seek regular income from their mutual fund investments. They can either go with the dividend plan or opt for a systematic withdrawal plan (SWP). But which is a better investment option among the two – dividend or SWP? In order to determine that first let us understand the nature of these two withdrawal tools.
A dividend is the most traditional way to seek regular income from mutual fund investments. Whenever a mutual fund scheme makes profit, these profits are distributed to investors in the form of dividends. One does not have to pay any capital gain tax for dividend income. The dividends are distributed at the sole discretion of the fund manager.
Systematic Withdrawal Plan (SWP)
An SWP works just like an SIP (Systematic Investment Plan). But with SIP, a predetermined amount is debited from one’s savings account and electronically transferred to the mutual fund. With SWP, a predetermined amount/units are debited from an investor’s mutual fund portfolio and liquidated amount is electronically credited to the investor’s registered savings account. If you as an investor have invested Rs. 1,20,000 in a mutual fund scheme then you can set up SWP for a tenure of 12 months and seek a monthly income of Rs. 10,000 from your mutual fund investment.
What is a better withdrawal option for mutual fund investors – Dividend or SWP?
Let us understand the features of both dividend payouts and SWP to determine which may be more suitable for your financial needs:
SWPs offer fixed payout, dividends don’t
A Systematic Withdrawal Plan guarantees a fixed payout to all investors. Investors receive this assured amount at regular intervals which is usually on a fixed date of every month. Thus, one can derive to the fact that an investor will receive his/her entire investment amount at some point of time in future.
In case of a dividend plan, an investor will only receive income if the scheme they invested in declares dividend. Now do bear in mind that dividend is only distributed by the mutual fund if the scheme makes profit. This means that the intervals at which dividend plan owners will receive income is uncertain.
DDT tax is not applicable on SWPs
Mutual funds offering dividend payouts have to pay a dividend distribution tax to the government which is around 12.5 percent for debt funds (more in case of equity funds). But with SWPs there are no dividends involved and hence no tax is applicable. This tax is deducted from the dividend earned by the fund. Although dividend plan holders do not have to pay DDT tax, this deduction does affect the overall income earned by the fund.
SWPs are more tax efficient when it comes to capital gains
There is a flat 10 percent tax on long term capital gains derived from dividend plans. But in case of SWP capital gains of up to Rs. 1 lakh are exempted from LTCG tax. Since you make systematic withdrawals from your mutual fund investments via SWP there is a good chance that your capital gains might remain below the capped Rs. 1 lakh per year amount.
You may have realized that SWPs excel at almost every point as compared to dividend payouts. We hope that this might help you make your decision making simpler.