At www.advisorkhoj.com we get many queries and comments from investors daily; usually, we get more than 400 queries and comments from investors and advisors every month. Though responding to all the investor queries and comments takes up a lot of my team’s time, it is extremely useful from an investor engagement perspective and helps my team get valuable insights into investor thinking.
Over the past many months, we are seeing a lot of queries on mutual fund dividends and systematic withdrawal plans. In this two part post we will discuss both mutual fund dividend options and systematic withdrawal plans, so that you can make smarter investment decisions.
Investors have always been interested in stock or mutual fund dividends because it provides them cash-flows from time to time. However, we think that, the recent increase in interest in mutual fund dividends is related primarily to two factors – falling interest rates (of bank fixed deposits and Post Office small savings schemes) and the high stock market. While the interest in dividends is understandable, we think that there are a number of misconceptions regarding mutual fund dividends among retail investors. The attraction for high dividends among many retail investors can also make them vulnerable to mis-selling. Investor education and awareness is our mission in Advisorkhoj.com; we will devote the first part of this two part post in discussing dividend options of mutual fund schemes and some common misconceptions regarding mutual fund dividends.
Mutual fund dividend options are essentially different modes of profit distribution. A mutual fund scheme makes profit from time to time through buying and selling stocks. In the Growth Option of a scheme the profits are reinvested in the scheme; in the Dividend Option the profits are distributed to the investors as dividends. Dividends are declared on a per unit basis. Let us assume you own 1000 units of a mutual fund scheme. The Asset Management Company (AMC) declares a dividend of Rs 5 per unit; you will receive a total dividend of Rs 5,000.
A scheme can have multiple dividend options e.g. Annual Dividend, Quarterly Dividend, Monthly Dividend etc. depending on the distribution frequency. Investors can choose the option depending on the frequently they want to receive dividends. There is another dividend option known as Dividend re-investment Option, where the dividend declared by the scheme is re-invested to buy units of the scheme at ex-dividend NAVs. Investors can switch between dividend options of a scheme without attracting any exit load, but if you switch from dividend to growth or growth to dividend then exit load rules (if any) will apply.
Investors should know that, the NAVs of different scheme options will be different. The NAVs of Growth Options will be higher than Dividend Options because the profits are re-invested in the scheme instead of being paid out to investors. The NAVs of different Dividend Options of a scheme will also be different. However, the NAVs of Dividend re-investment Option and the corresponding Dividend Option will be the same.
Dividends paid by mutual funds are tax free in the hands of the investors, but some mutual fund schemes may have to pay dividend distribution tax (DDT) before paying dividends to investors. Equity mutual funds (schemes where percentage of equity in asset allocation is more than 65%) do not have to pay dividend distribution tax and hence the dividends are totally tax free for investors. However, non equity mutual funds (schemes where percentage of equity in asset allocation is less than 65%) will have to pay dividend distribution tax (DDT) at the rate of 28.84% before paying dividends to investors. The tax treatment of mutual funds is an important consideration in choosing between Dividend Options and Systematic Withdrawal Plans from Growth Options, which we will discuss in part 2 of this post.
Let us now discuss some common misconceptions regarding mutual fund dividends.
We in Advisorkhoj.com want you to make investments based on sound principles like investment goals, risk appetite, proper asset allocation, risk profile of a fund and fund manager performance. Making investment decisions based on incorrect perceptions and trying to second guess what the fund manager is doing, will lead you to make wrong investments. If your investment objective is capital appreciation then you invest in Growth Option of the mutual fund scheme. If you need income (regular cash-flows) from your investment then Dividend Option is the appropriate choice. However, there is another smart plan which can also provide you with regular income – Systematic Withdrawal Plan of mutual funds. In the second part of this series, we will discuss, Systematic Withdrawal Plan and compare it with dividend option.
Mutual Fund Investments are subject to market risk, read all scheme related documents carefully.
Mirae Asset Global Investments is the leading independent asset management firm in Asia. With our unique culture of entrepreneurship, enthusiasm and innovation, we employ our expertise in emerging markets to provide exceptional investments opportunities for our clients.
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