Is Dividends from Mutual Funds a Boon or Bane?

Priyanka Sharma

17 Jul 2017

New Page 1

A mutual fund scheme can declare dividends only from the realised profits in its portfolio. Realised profits are the gains made by the fund manager from instruments by selling them and booking profits or when he receives dividend or interest (in the case of debt funds) from the instruments the scheme holds.

Dividend schemes can announce dividend daily, monthly, quarterly or annually as the case may be. For example, many hybrid funds or monthly income plans endeavour to give a monthly dividend to their unit holders.

For example, if you have invested in a fund at the NAV of Rs 15 and opted for dividend option. The scheme performs and after appreciation, the NAV reaches Rs 18. The fund house may decide to pay out Rs 3 as a dividend. So you receive Rs 3 and simultaneously the NAV will fall back to Rs 15. If you invest it back your NAV will go back to Rs 18.

What can you do With Dividends?

Unrealised profits or paper profit from the instruments held cannot be used to pay dividends. These profits are added to the NAV. Some part of this can be declared as dividend depending on the fund manager.

Alternatively, the fund manager could also deploy this money back in buying stocks or debt instruments in line with the scheme objectives.

When is Dividend a Boon?

Lower Risk: Financial planners recommend dividend option for conservative investors in equity for those who are risk averse and those who need some cash flows.

Regular Cash Inflow: Another case when it is useful to collect regular dividends is where you need income to meet your expenses and dividends can be a good way to achieve the same.

Tax Benefit: Dividends received from all mutual funds are tax-free in the hands of the investors. However, in the case of debt funds, the fund house pays a dividend distribution tax of 28.84% which includes surcharge and cess. In an equity mutual fund, there is no dividend distribution tax.

When is Dividend a Bane?

Reduces Investible Fund: Every time it pays out a dividend, the mutual fund reduces its own investible funds. Either it uses the cash available with it or it sells some of the investments to generate that cash and pay the dividend to you.

Eliminates Compounding Effect: As soon as the money arrives in the bank, it is out of work. It is highly possible that you will spend it. The same money, if it had stayed invested, could benefit from the power of compounding leading to a growth in the final investment corpus. As an investor, while you may feel you have gained (dividend), you are actually at the losing end.

To sum it up

Many investors opt for the dividend option in a mutual fund scheme, as it gives them intermittent cash flows, which comes handy in meeting their regular expenses.

However, when it is not required it is best to reinvest the dividend back into the fund. This is because the compounding benefit is lost when the dividend is paid unless the amount is invested immediately in a higher than equity yielding asset.

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Why to Choose Mutual Funds Instead of Directly Investing Into Equities?

Whether to invest in equities or mutual funds is a question that has plagued every investor. As someone who needs the best value for his/her investment should you invest in equity directly or via mutual funds?

Let’s start by first understanding what these two terms ‘equities’ and ‘mutual funds’ stand for-

Equities- Equities generally represent ownership of a company. If you own any equity in a company, you are a part owner of the said company (depending on how much equity you own).

Mutual Funds – It is an investment scheme which is professionally managed by an asset management company. It pools together the resources of a group of people and invests their money in equities, debentures, bonds and other securities.

Why choose mutual funds over equities?

For people who’ve never invested in either stocks or mutual funds, it is hard to know which is better and where to start. Broadly speaking, if you are a novice investor, mutual funds are not only less risky but also way easier to manage. Here are some ways in which investing in mutual funds is beneficial as opposed to investing in equities -

Diversification

Mutual funds provide more diversification as compared to an individual equity stock. When you invest in equity, you are investing in a single company which has its inherent risk. For example, if you invest Rs.20,000 in buying equities of one company, you could face a total loss if that particular company performs poorly in the market.  

If you invest the same amount in mutual funds, it will be invested in different kinds of stocks and financial instruments, high-risk and low-risk both, so you might not face total loss even if one company does poorly.

Scale of Investment and Lower Costs

For an individual investor buying and selling stocks is a difficult task due to its high price. Thus, any gains made from stock appreciation are nullified if the overall trading costs are considered. Comparatively with mutual funds, as the money is pooled from a large number of investors, the cost per individual is lowered.  

Another advantage of mutual funds is that you don’t need to invest large sums of money. Buying equities for a profitable venture needs huge amounts of money, a minimum of few lakhs. With mutual funds, you can start with Rs.1000 and earn profits on that as well.

Convenience

Keeping an eye on the markets everyday is a time-consuming business, especially if you are investing as a side gig. There are people who spend their lives studying the market and still end up sustaining heavy losses. Though investing in mutual funds does not guarantee high returns, it is stress-free and needs less work as compared to investing in equities.

To sum it up

It is important to remember that mutual funds have their own disadvantages as well. Thus, as with any financial decision, educating yourself and understanding the suitability of all the available options is the ideal way to invest. 


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Is Dividends from Mutual Funds a Boon or Bane?

Priyanka Sharma

17 Jul 2017

New Page 1

A mutual fund scheme can declare dividends only from the realised profits in its portfolio. Realised profits are the gains made by the fund manager from instruments by selling them and booking profits or when he receives dividend or interest (in the case of debt funds) from the instruments the scheme holds.

Dividend schemes can announce dividend daily, monthly, quarterly or annually as the case may be. For example, many hybrid funds or monthly income plans endeavour to give a monthly dividend to their unit holders.

For example, if you have invested in a fund at the NAV of Rs 15 and opted for dividend option. The scheme performs and after appreciation, the NAV reaches Rs 18. The fund house may decide to pay out Rs 3 as a dividend. So you receive Rs 3 and simultaneously the NAV will fall back to Rs 15. If you invest it back your NAV will go back to Rs 18.

What can you do With Dividends?

Unrealised profits or paper profit from the instruments held cannot be used to pay dividends. These profits are added to the NAV. Some part of this can be declared as dividend depending on the fund manager.

Alternatively, the fund manager could also deploy this money back in buying stocks or debt instruments in line with the scheme objectives.

When is Dividend a Boon?

Lower Risk: Financial planners recommend dividend option for conservative investors in equity for those who are risk averse and those who need some cash flows.

Regular Cash Inflow: Another case when it is useful to collect regular dividends is where you need income to meet your expenses and dividends can be a good way to achieve the same.

Tax Benefit: Dividends received from all mutual funds are tax-free in the hands of the investors. However, in the case of debt funds, the fund house pays a dividend distribution tax of 28.84% which includes surcharge and cess. In an equity mutual fund, there is no dividend distribution tax.

When is Dividend a Bane?

Reduces Investible Fund: Every time it pays out a dividend, the mutual fund reduces its own investible funds. Either it uses the cash available with it or it sells some of the investments to generate that cash and pay the dividend to you.

Eliminates Compounding Effect: As soon as the money arrives in the bank, it is out of work. It is highly possible that you will spend it. The same money, if it had stayed invested, could benefit from the power of compounding leading to a growth in the final investment corpus. As an investor, while you may feel you have gained (dividend), you are actually at the losing end.

To sum it up

Many investors opt for the dividend option in a mutual fund scheme, as it gives them intermittent cash flows, which comes handy in meeting their regular expenses.

However, when it is not required it is best to reinvest the dividend back into the fund. This is because the compounding benefit is lost when the dividend is paid unless the amount is invested immediately in a higher than equity yielding asset.

Have Referral Code?