Smart Option to Get Regular Income
Hemant Rustagi
Chief Executive Officer, Wiseinvest Pvt Ltd.
One of the biggest challenges for retirees as well as self-employed people in present times is to generate regular income at a healthy rate through their investments. Although there are a number of traditional and market-linked investment options that can help investors get regular income, there are pros and cons of investing in each one of them.Traditional investment options like bank fixed deposits, Post Office Monthly Income Scheme (POMIS), Senior Citizen Savings Scheme (SCSS) and annuity plans are quite popular amongst investors for generating regular income.
While the positives are fixed interest, convenient way of investing and low credit risk, the negatives are low interest rates, taxability of interest at one’s applicable tax slab and reinvestment risk. As for the market-linked products, every mutual fund product offers two options to investors i.e. dividend and growth. If one opts for dividend payout, the scheme pays dividend at an interval as specified in the offer document. However, the quantum of dividend is not fixed. In market-oriented products there is a potential of getting higher returns than traditional options.
This comes by way of a combination of dividend out of realised profits and appreciation in value of investment, albeit with some amount of volatility depending upon asset allocation of the fund. This helps in staying ahead of inflation over the longer period. It is also important to understand the risks of relying on mutual funds to generate regular income through dividends. Mutual fund managers may either skip or pay lower dividend during turbulent market conditions. Hence, one shouldn’t depend entirely on this option for generating the required regular income.
Moreover, dividend is taxed at one’s applicable tax rate and hence for investors in the higher tax bracket, this option is not as lucrative as it was up to March 2020 when a fund house paid Dividend Distribution Tax but the dividend was tax-free in the hands of investors. The systematic withdrawal plan (SWP) is emerging as an alternative option for those looking to earn tax-efficient regular income from their mutual fund Investments. SWP allows investors to withdraw fixed amounts at regular intervals, as for example, monthly, quarterly or yearly out of their investment. To generate this cash flow, the fund redeems units of mutual fund scheme at chosen intervals.
"Overall, a combination of traditional options and market-linked products can be ideal to generate adequate regular income as well as achieve growth to stay ahead of inflation."
Simply put, SWP ensures inflow of regular income even from a market-linked product. Investors have the flexibility of deciding the quantum as well as frequency at which they would like to receive this income. For investors in the higher tax bracket, SWP provides tax-efficient returns. While dividend is taxed at one’s applicable tax rate, inflows through SWP are a combination of principle and capital gains. Moreover, under equity or equity-oriented hybrid fund, when one gets money through SWP, gains are taxed as long-term capital gains at 10 per cent and capital gains up to Rs1 lakh in a year are exempt from tax. Although SWP is an efficient way to generate regular income, one has to be careful about the quantum of withdrawal (usually it should be 6-7 per cent) as aggressive withdrawals can result in loss of capital over the long-term and jeopardise one’s financial future.
It is also important to be careful about asset allocation and choice of fund to manage the tax efficiency of returns. Ideally, for someone looking to generate income without making the portfolio too aggressive, a combination of funds like equity savings, balanced advantage and equity–oriented hybrid funds would be ideal. Overall, a combination of traditional options and market-linked products can be ideal to generate adequate regular income as well as achieve growth to stay ahead of inflation. Of course, the right mix is the key here.