Mutual Funds Investment Options – Dividend or Growth

Investments Options basically address the question of what should be done with the returns you receive on the investments made. In a normal Fixed Deposit, you receive interest periodically. The interest is either paid to you (known as Simple Interest) or it is reinvested and so that the interest earned in the first year is invested and earns interest in the second year (compound interest). In case of direct investment in equities, if the value of the share increases and a dividend is declared, it is received by you in your bank account and the value of the equity share falls to the extent of dividend received by you. When you invest in any Mutual Fund Scheme you have the following Investments Options: Dividend Option: Under this option, the Mutual Fund Scheme periodically declares a dividend which is paid out to the investor just like how an equity share paid the dividend or how a fixed deposit pays interest. However, the dividend is not guaranteed and is subject to profits made by the Mutual Fund Scheme and availability of distributable surplus. If the units of a Mutual Fund Scheme ‘A’ are valued at INR 45 per unit and the Scheme ‘A’ declares a dividend of 20%, an amount of INR 2 (20% of INR 10) will be paid to the investor and the value of the Scheme ‘A’ units will fall to INR 43. This option suits someone who is dependent on his investments for regular income. Growth Option: As the name suggests, under this option profits earned remain invested and are not withdrawn. The advantage of this option is that your investments continue to grow on a larger base and you enjoy the compounding advantage . In the above example, your Mutual Fund units in Scheme ‘A’ continue to be worth INR 45 and grow year on year. In case you are investing to build a corpus over a long period of time, this is the option you must select. Dividend Reinvestment OptionUnder this option, the amount of dividend declared by the Mutual Fund Scheme is used to buy more units in the scheme. The dividend of INR 2 declared above by Scheme ‘A’ is not returned to the investor, it is used to buy more units in the Scheme ‘A’. The net effect of the Dividend Reinvestment Option on the value of the investments is the same as the growth option. Dividend Reinvestment Option has a small tax advantage for Liquid Schemes. Short-Term Capital gains on Liquid Schemes are charges as per the investors’ slab rates (maximum slab rate: 30% plus surcharge plus education cess). However, the dividend declared by a Liquid Scheme pays a dividend distribution tax of 20.3576%, resulting in the tax advantage.

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