Article Shared by Edelweiss AMC
When you are starting your earnings and financial planning journey, your focus is ideally on growing your wealth and meeting your financial goals. However, many investors also require a monthly income from their investments to supplement their current income. Further, investors might also want to invest such that they have a regular income during their retirement years. Such investors can choose the Systematic Withdrawal Plan (SWP) route to create a regular income from their mutual fund investments.
An SWP is a great way to ensure a regular flow of income from your mutual fund investments. Similar to a Systematic Investment Plan (SIP) which allows you to invest a fixed amount of money in a mutual fund scheme of your choice and at time periods (fortnightly, monthly, quarterly) that suit your best, SWPs allow you to withdraw a fixed amount of money from your mutual fund investments at specific time periods. Thus, just like you would use the SIP route to invest over the long-term and create a retirement corpus, you can leverage the SWP route to create a regular retirement income from this accumulated corpus.
Let us understand this better with an example.
Assume that you set up an SWP to withdraw Rs. 10,000 from mutual fund investment in a particular scheme on the 5th of every month for the next five years. Here it is important to understand the concept of Net Asset Value (NAV). Basically, this the per share or per unit value of a mutual fund portfolio. It is calculated as:
NAV = (Market value of the portfolio – liabilities) / total number of fund units
Now, coming back to our example. Based on the NAV of the scheme on the 5th of the month (your chosen date), mutual fund units equivalent to Rs. 10,000 will be automatically redeemed and the proceeds from the redemption will be transferred directly to your bank account via NEFT.
Generally, an SWP would prove to be a better option than dividends. Let’s see how.
SWP is more tax-efficient than dividend income: The short-term capital gains tax on equity is 15% while the long-term capital gain tax on profits above Rs. 1,00,000 in a year is 10%. If you start your SWP a year after investing and your gain on the investment is less than Rs 1 lakh, you pay zero tax. Alternatively, even if your gains exceed Rs, 1,00,000, you only pay 10% tax on the excess gains. On the other hand, dividend income will be taxed at your individual tax slab. So, you are in the 30% + tax bracket, then you will have to pay 30% (plus surcharge and cess) on your dividend income.
Another factor in favour of SWP is certainty in monthly income. When you choose to do an SWP, you are sure that a certain amount as monthly cash flow will be credited to your account. However, it can be uncertain in the case of dividend income as it is primarily dependent on the dividend declared by the mutual fund.
While the decision between an SWP and dividend option will largely depend on your monthly requirements, risk profile, and the time period for which you require the income, from a tax and cash flow certainty perspective, an SWP would certainly be better.
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