Use SWP for tax-efficient regular income from mutual funds

Use-SWP-1

What is SWP or Systematic Withdrawal Plan? It essentially enables customization so that investors can withdraw a specific amount of money or the capital gains from their mutual fund investments on a regular basis. Investors are thereby able to tailor their income stream with respect to their financial needs. This is how investors can avail both steady income as well as desired returns as per their financial necessity via SWP.

SWP is the most effective way if investors are on the lookout for a fixed income source along with the benefit of taxation. Mutual fund withdrawals are subject to taxation depending on the category of the funds you own. There are broadly two types of mutual fund schemes - debt mutual funds and equity mutual funds. An important point to be noted is that the method of taxation differs for both of them. In order to ensure uniformity between dividend and growth schemes, a dividend distribution tax (DDT) of 10% was introduced in Budget 2018. The key difference between DDT and capital gains tax is that, DDT is paid by the fund house whereas capital gains tax is supposed to be paid by the investors. As a result of 10% DDT on dividend options, the equity oriented mutual fund schemes and the growth schemes can now possibly be on the same page.

Talking about SWPs or Systematic Withdrawal Plans (SWP), redemption is as per first in first out (FIFO) method or in essence, the first ones to be purchased would be the first ones to be redeemed. Therefore, overheads for the purpose of taxation will be considered as per FIFO method. Post redemption, investments in equity mutual funds after a year would qualify for long-term capital gains tax (LTCG). Long-term capital gains (LTCG) in excess of Rs 1 Lakh are currently taxed at the rate of 10%. If investors sell their equity mutual fund investments before completion of one year, they are required to pay a short-term capital gains tax (STCG) of 15%. However, debt mutual funds are eligible for long-term capital gains tax only if investments are held for three years or more. The long-term capital gains tax on debt funds is 20% with the inflation indexation benefit on the original investments. If debt mutual fund investments are sold before three years, the short-term gains are taxed as per the applicable income tax slab which will differ from one investor to another. On the basis of the above stated reasons, SWPs could be effectively planned out to achieve tax efficiency, also ensuring regular income at the same time. It hence qualifies to be a sensible investment strategy. The amount to be withdrawn by investors can be on a monthly, quarterly, annual or a semi-annual basis. However, how much to withdraw entirely depends on the financial goals of the investor. Investors could either opt for a fixed sum or simply choose to withdraw the capital gains. It is therefore imperative for investors to carefully consider this since the total fund value is bound to be impacted with respect to the withdrawn amount. SWPs are surely a great way to achieve tax efficient income but exercising a little caution in investment never harms. Therefore, investors are advised to think in accordance with their financial requirements/objectives and make appropriate choices by keeping the above guidelines in mind.

 

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