SWP is more tax efficient than dividends - Part II

Therefore, most investors should switch from dividend plans to growth plans. There may be an impact on taxes and exit charges at the time of the change, but these may have an overall negligible impact. When investing in mutual funds (MF) an investor has two basic options to choose from: growth and dividends. Under the dividend option, there are two sub-options: dividend refund and dividend payment. In the growth option, the total invested capital  grows over time in a fluctuating manner based on movementsstock markets. While the dividend return option is quite similar to the growth option, under the dividend payment option, asset management companies (AMCs) pay dividends to investors when they have distributable earnings from a particular MF program. Some AMCs pay regular dividends on some MF programs, so investors choose the dividend payment option to earn regular dividend income. 

However, with regular dividends, there may be a risk of a decrease in invested capital  if the dividend is paid in a low market withoutGrowth and dividend options are available in both equity and debt funds. Bond funds are less likely to lose capital on the dividend payment option because they are less volatile than stock funds. However, until now, dividend distribution tax (DDT) on debt funds has been higher than on stock funds, which has been a deterrent. Despite these disadvantages, many investors used to opt for the dividend payment option in order to generate regular income since the dividends were tax-free in the hands of the investors.In the 2020 Budget, Finance Minister Nirmala Sitharaman eliminated DDT but  made dividends taxable. Unlike DDT, the new tax rule makes dividends more taxable for those with higher incomes than those in the lowest income bracket. 

It is recommended that investors better choose the growth option instead of the dividend payment option. To generate regular income from the growth option, an investor can implement a systematic payout plan (SWP).Like the Systematic Investment Plan (SIP) used for regular monthly investments, particularly in stock funds, SWP is a regular withdrawal system where you can choose a day of the month when you  receive the payback product. To avoid capital erosion, an investor should opt for a lower SWP so that withdrawals are made from the growth portion and the invested capital remains protected. The advantage of the  SWP over dividends is that the SWP is subject to capital gains tax,while dividend income entails income taxes. For example, on dividend income of Rs 6 lakh in a tax year under the new tax regime, an investor in the top tax bracket will have to pay up to 30 per cent in tax, while in the case of SWP an equity MF investor will have to pay 10 per cent in tax, and  only on the profit portion over Rs 1 lakh in a financial year. Debt fund investors  pay a very low 20 percent tax on long-term capital gains (LTCG) after indexation. So SWP is a better option