MIP is a hybrid mutual fund scheme. The reason being, it invests in both equity and debt securities. Majority of the corpus is traditionally invested in debt securities (around 70% – 80 %) such as debentures, corporate bonds, public securities etc. while the rest is invested in equity.
The equity exposure is limited due to market volatility, although it can be used for optimizing profits when the market rallies and the major chunk going to debt funds provides a steady flow of income. However, the term "monthly" in MIP is pretty deceptive. It does guarantee consistent returns but it does not provide fixed returns on a monthly basis. A strong market and a good profit are pre requisites for monthly dividend payments. In case of weak profits, there is no such norm which makes payment of monthly dividend mandatory. The Securities and Exchange Board of India (SEBI) too does not allow mutual funds to guarantee income or dividends.
MIPs are categorized as debt funds from the point of view of taxation; owing to exposure to debt securities being more than 65% at any given point in time. It essentially is a low risk scheme and investors looking for a secure future post retirement or homemakers with absolutely no source of monthly income are more likely to pick this option.
The returns obtained via MIP are much better compared to FDs. Therefore, it appears to be a lucrative, low risk investment alternative. Further, absence of an investment limit as well as compulsory lock-in tenure in MIP accentuates its attractiveness. Taking into consideration, the tax implications; sale of shares post three years involves LTCG (Long Term Capital Gains) wherein the returns are taxed at 20% with the benefit of indexation and no tax on dividends. Sale of shares before three years involves STCG (Short Term Capital Gains) tax of 15% on the returns.However, changes in taxation in 2013 indicated underperformance of MIPs. Effective from 1 June 2013, dividend distribution tax (DDT) for debt fund category was increased from 12.5% to 25%. This meant that the monthly dividend you received or expected to receive from an MIP was to be taxed at a much higher rate. With the additional surcharge of 10% and cess, the effective rate of DDT is 28.84% .This caused the net return to fall significantly. So, thinking that MIPs are tax-efficient or could help with saving on tax can possibly be incorrect; with respect to bank deposits and especially for those investors which fall in the 10% to 20% tax slab. The high DDT (Dividend Distribution Tax) can thus work as a restraint.
Let's address the question as to who should ideally opt for MIPs. MIPs are possibly the best investment instruments for particularly conventional investors with low risk tolerance. This category of investors include homemakers, retirees or people who are soon to retire and have no specific source of income; yet desire good returns or a steady stream of income in order to meet their expenses. These are the kind of people who generally wish to maintain a stable income factoring inflation, low risk portfolio without craving for a quick buck. Adventurous investors with a higher risk appetite too can explore MIPs by experimenting with the equity component since it has immense potential to provide high returns during bullish market. However, it is important to be aware and take a well-calibrated, controlled risk as the equity component is heavily subjected to market volatility.
Being hybrid in nature, MIPs have the ability to catch the attention of both risk- averse and risk taking investors as it offers a nice blend of investment in debt and equity securities. Additionally, in order to reduce the risk from the equity security investment feature of MIPs, in case it does not offer regular returns; it also provides a rapid fix route in the form of SWP (Systematic Withdrawal Plan) which permits annual/semi-annual/quarterly/monthly withdrawal from the mutual fund scheme for enhanced security of income. The perception of how appealing this avenue is largely depends on how much risk the investor is willing to take. A well reasoned investment makes all the difference.