A lot of investors choose to invest in dividend plans as they promise a regular income through the dividends. Although regular payouts seem very attractive as opposed to growth plan, which doesn't offer regular income, dividends could end up harming your affluence. Take a peek to know how:
Dividends are tax free in the hands of the investor. But the fund houses are required to pay a dividend distribution tax which is 15% of the dividends declared. This is deducted from the dividends before it is paid out to the investors. Although the tax rates on equities and balanced funds aren't very different, the DDT is deducted on every dividend that is declared whereas in a growth type of fund, the interest in tax free after the lock-in period over.
In many cases, the dividend amount that the investor receives is not even needed at that point. Hence the investor ends up paying taxes for an unrequired income before investing it back into some other plan.Rather, has the money stayed invested in a growth fund, it would have yielded more income without any taxation.
You do not control the timing or amount of the dividend that is paid to you but the fund manager. You could end up paying more taxes if you receive a dividend in the wrong time.
Reduction in the NAV:
Since a part of the profits is paid out to you, the power of compounding does not work to its fullest potential. The NAV of the fund reduces according to the dividend that is declared. For instance, if a fund has a NAV of ₹70 and a dividend of 10% is declared. So you earn ₹7 as dividend but your NAV will fall from ₹70 to ₹63.This dip in the NAV would affect your future income.
Dividends are not always assured. In some cases, zero dividends are declared throughout the year.
The price of the fund can fall sharply even if no dividend is paid out. In such scenarios, your investment would be affected deep as you would be facing capital loss.
Generally, dividend funds see less price escalationthan growth funds. If you are looking for higher returns and is willing to take up greater risks, dividends will not suit your plan.
Unless you are willing to compromise on your money with the risks involved,you can invest in growth and just liquidate the assets when and as required while allowing the investment to multiply well. This would allow an income whenever needed while providing tax benefits and compounding your wealth to the fullest potential.