Saturday 23 July 2016

Regular Income Option in Mutual Funds (Systematic Withdrawal Plan)


What is Systematic Withdrawal Plan (SWP) in Mutual Funds?


Systematic Withdrawal Plan or SWP, as popularly known, is a service offered by Mutual Funds which provides investors withdrawal of a specific amount of payout at a predetermined time frequency, like weekly, fortnightly, monthly, quarterly, half-yearly or annually.



Unfortunately, this is a much-underestimated investment strategy in India. If understood properly, this could become the most effective and tax efficient way to earn regular returns from Mutual funds. Through a series of our articles on SWP, we will try to educate the investors about SWP, how it works and the tax benefits etc. by showing some examples of top performing Balanced Funds.

As you know already Balanced Mutual Funds invests 65 – 75 % of the portfolio in equities and rest in debt or money market instruments and also that the balanced funds are subject to equity taxation as these are hybrid equity oriented mutual funds. Long-term capital gains, for an investment period of more than 1 year and the dividends received from balanced funds - both are tax-free. Short-term capital gains applicable for investments of less than 1 year are taxed at 15%.

How SWP worked in case of Birla Sun Life Balanced 95 Fund – Growth Plan

If you had invested  10 Lacs in Birla Sun Life Balanced 95 Fund – Growth Plan on January 1, 2001, and withdrawn  8,000 per month from January 2, 2002, then the current value of your investment would have been 61.06 Lakhs even after withdrawing  14.00 Lakhs! We presumed that the monthly SWP withdrawal of  8,000 was started after one year (starting date January 2, 2002) from the date of investment (January 1, 2001) and thereafter on the 2nd day of every month so that each and every SWP amount in the hands of the investor is tax-free.

SWP (Systematic Withdrawal Plan) results

From the above chart you can see that the investor would have withdrawn a total of  14.00 Lakhs through 175 equal monthly SWP instalments of  8,000 each, thus, he would have got a tax free return of 9.6% every year. Even after withdrawing a tax free amount of  14.00 Lakhs, the current value of his investment would stand at  61.06 Lakhs! The SWP returns were annualised (IRR) 17.07%.



From the above image, you can see that the investor would have withdrawn a total of  18.76 Lakhs through 175 increasing SWP instalments, starting from Rs. 8,000 per month in the first year and ending with  13,600 per month in the last year. Therefore, he would have got a tax free return of 9.6% in the first year which gradually increased every year and in the last year, it was 16.32%. Even after withdrawing a tax-free amount of  18.76 Lacs, the current value of his investment would be  50.19 Lakhs! The fund gave an annualised (IRR) 17.13% return


You will notice from the above image, how we have increased the SWP amount annually by 5% on the initial investment. You will also notice that during this entire period, the net investment value dropped to lesser than the initial lump sum investment amount i.e.  10.00 Lacs, only during the initial period of 20 months (January 2002 to August 2003). You must have also noticed that barring this 20 month, the remaining period the net investment value never gone down to less than the initial investment of  10.00 Lacs even though we increased the SWP amount by 5% annually. 

It proves that if you remain invested over a long period in balanced funds then the trailing returns should be positive.

Conclusion

Birla Sun Life Balanced 95 Fund – Growth Plan has given excellent SWP returns in last 15 years and so and may be a good choice for investors looking for regular income from their lumpsum investments in balanced funds by taking an only moderate risk. 

However, investors should note that past performance of mutual funds are no guarantees for future returns. Mutual fund investments are subject to market risk and therefore investors must consult their financial advisors for guidance.

Thanks & Happy Investing !!!

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