Benefits of SWP
1. Disciplined Investing
An SWP automatically redeems some mutual fund units every month to meet your monthly expenses, regardless of market levels. It thus protects you from withdrawing large amounts due to panic/fear when there are market corrections. It also withdraws money even when markets are making new highs and thus protects you from the impulse to invest more money/stay invested in boom periods.
2. Rupee-Cost Averaging
SWPs help investors benefit when they withdraw their investments due to rupee cost averaging. Rupee cost averaging gives an investor the average NAV of a mutual fund over several months/years rather than making him dependant on a NAV at a single point of time.
Here is an example. An investor invested Rs. 1 lakh in a mutual fund scheme in the month of January 2018 at a NAV of Rs. 100. He opted for a lump sum withdrawal at the end of 5 months. Another investor bought mutual funds worth the same amount opted for a monthly SWP of Rs. 10,000 for 5 months.
3. Fixed Income
A SWP helps an investor get a fixed periodic amount which can help him/her by get a steady income in his/her retirement years or managing his/her child’s educational expenses.
4. Tax Efficiency
Each withdrawal made through an SWP is considered to be a combination of capital and income. Tax is only payable on the income component and not the capital component. For example, assume that Mr. A has invested Rs 10 lakh in a mutual fund and this grows to Rs 11 lakh (10% growth). He withdraws Rs 1 lakh from his mutual fund at the end of each year. Only 10% of his withdrawal (Rs 10,000) is considered as income and the balance (Rs 90,000) is considered as a capital withdrawal. On the other hand, if he had invested in a bank FD and got Rs 1 lakh interest on a principal of Rs 10 lakh, the entire Rs 1 lakh would be considered as income and would be taxable.
A SWP can also prove to be more tax-efficient because if it splits your income over several years. For example, both Mr. X’s and Mr. Y’s total taxable income for FY19 and FY20 is Rs. 4,50,000 without accounting for their mutual fund capital gains. For simplicity, let’s assume the debt mutual fund scheme in which both Mr. X and Mr. Y invested earned monthly gains of Rs. 10,000 throughout FY19 and FY20. While Mr. X chose to opt for a monthly SWP and withdrew the capital gain for 10 months starting October 2018, Mr. Y chose to withdraw Rs. 1,00,000 in July 2019.
Now, due to SWP, Mr. X was able to keep his total taxable income within the tax slab of Rs. 5,00,000 (Rs. 4,50,000 + Rs. 50,000) and pay his tax @ 5% for both FY19 and FY20. Whereas, due to the lump sum withdrawal in July 2019, Mr. Y’s total taxable income increased to Rs. 5,50,000 in FY20, thereby attracting tax @ 20%.
Great.Thanks