When Deepak, a Bengaluru-based sales manager was nearing his retirement, he started scouting online for various investment options to invest the lump sum amount he was likely to receive, as a part of his retirement benefits.

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As an investor with a moderate risk appetite, he finally decided to settle for mutual funds. However, he was in for a dilemma as both the investment options he had shortlisted such as the Systematic Withdrawal Plan (SWP) and dividend plan looked equally appealing.

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Like Deepak, there are thousands of investors who are confused about choosing the best instrument for regular and stable monthly income.

Pranav Uppal, Product Head at Bonanza Mutual Fund decodes which is the best plan to opt for to maximise wealth:

Let’s take a detailed look at why SWP is an ideal solution for those with a regular monthly income requirement.

SWP (Systematic Withdrawal Plan) is an option in mutual funds that allows an investor to withdraw a fixed or variable amount from his/her mutual fund scheme on a monthly/quarterly/half-yearly/yearly basis on predefined dates.

How does an SWP work?

Assuming you have invested Rs. 5 lakhs in an SWP with a NAV of Rs. 10, you would receive 50,000 units.  

In the next year, when your chosen payout period starts, the company would redeem 175 units for chosen payout amount of Rs. 3500 (assuming NAV has increased to Rs. 20) in the first month. Balance units left in your account would be 49825.

In the second month, assuming the NAV has fallen to Rs. 18 the fund house would redeem 194.44 units from your account.

In this case, the balance units left in your account would be 49630.55 units. And till the end of the SWP period, this continues.

Thus, SWP also helps an investor in rupee cost averaging as the amount of withdrawal is fixed and less units are be liquidated when the NAV is high and vice versa when NAV is less.

How SWP differ from a dividend plan?

An SWP works in exactly the contrasting manner of a Systematic Investment Plan (SIP) where one invests in mutual funds on a regular basis via transfer of funds from the bank account to mutual fund investments.

In the case of SWP, the funds are generated through the sale of MF units and transferred to the investor’s bank account on a predetermined date or interval.

Besides, after every dividend payout, the Net Asset Value decreases by the dividend amount and Dividend Distribution Tax (DDT) is also deducted from the dividend paid amount.

Dividend mutual fund plans (IDCW plans) is an option that try to provide dividend payout on monthly/quarterly/annual interval. And these dividends are distributed from the profits or gains made by the scheme.

Though the fund house endeavors to give consistent dividends, the distributable surplus is determined by market movements and fund performance.

As an investor, it is important to understand that dividend payouts are not guaranteed and may vary with the performance of the scheme.

On the other hand, in an SWP the payout amount is steady on a regular basis. The overall no of units decreases as the units are redeemed but there is also an upside possibility.

Why SWP?

• Capital appreciation
• Steady & Regular Income
• Flexibility to choose from multiple options like amount, frequency, top up etc…
• No TDS is applicable on the SWP amount.
• Tax Efficiency

o If a selected scheme is an Equity oriented Scheme, then for units redeemed within 12 months from the date of investment, short term gain is @15% and for units redeemed after 12 months from the date of investment long term capital gains are tax-free up to Rs 1 Lakhs in a financial year. Long-term capital gains over Rs 1 Lakh are taxed only at 10%.

o If the selected scheme is a Non-Equity Scheme then if redeemed within 36 months (treated as a short-term capital gain) from the date of investment, the gains are added to the investor’s income and taxed at the rate applicable to him/her. Gains made after 3 years are treated as long-term and taxed at 20% after allowing indexation benefits.

Key Takeaways

SWP is an ideal investment strategy for those looking for a second income or regular income by investing a lumpsum amount.

SWP not only offers superior returns over traditional savings options like bank deposits and other government deposits but also has a great potential of delivering inflation-adjusted returns in long term.

Ideally longer the investment stays, the higher will be the benefits in terms of an increase in the market value of balance units. Over a longer period if NAV appreciates more than the rate of withdrawal then the balance fund value will also appreciate. In an ideal situation, annual withdrawal rate should not exceed 7%.

(Disclaimer: The views/suggestions/advice expressed here in this article are solely by investment experts. Zee Business suggests its readers to consult with their investment advisers before making any financial decision.)