The Hindu Business Line : Too risky to rely on equity funds alone

How do I earn income from equity funds? I am a retired professional aged 66 years residing in Mumbai on my own. I have a corpus invested in diversified equity schemes, all in the growth option. As I need a regular monthly income, I would like to know which of the following options is most suitable. At present, I withdraw units through profit-booking. But this does not ensure a regular income. Can I go for a Systematic Withdrawal Plan or switch to the dividend or dividend re-investment option?<150>

Ashok Kumar Maheshwari

Your query does not specify if you rely only on equity funds for your monthly income. If you do, this would not be a wise investment decision. Equity funds have earned impressive returns and have paid out generous dividends over the past two years on account of a buoyant stock market.

But they are not the ideal vehicles to deliver regular income of any kind. Returns from equity funds, even the good ones, tend to vary greatly from month to month and from year to year.

Should stock prices fall, returns from your equity investments can turn negative and the funds will not be in a position to pay out any dividends.

Therefore, you should have other sources of funds such as the Post Office Monthly Income Scheme that will pay out a regular income. You can use equity funds to supplement this income.

Whether you should use the systematic withdrawal plan, or switch to the dividend option for meeting your requirements of cash, will depend on how regularly you require cash.

If you choose the dividend option, you will receive dividends only when the fund declares them. Dividend declarations from an equity fund may be sporadic. In a good year for the stock market, there may be several payouts; in a depressed year, you can expect none.

The advantage of leaving the dividend decision to the fund is that it will pay out dividends only when it has earned an appreciation on the portfolio.

Using the systematic withdrawal plan would be the best way to ensure a regular cash flow from your equity fund.

The systematic withdrawal plan enables you to withdraw a constant sum from the fund each month, by redeeming the necessary number of units depending on the prevailing NAV.

However, when you use a systematic withdrawal plan, there is the danger that you could be dipping into your principal, in case your withdrawals are in excess of the appreciation earned on your investment.

You may therefore need to keep tabs on the remaining balance in your portfolio, so that you do not dip too much into your capital in a depressed year.

If you hold your equity fund for more than a year, the appreciation that you earn on your investment will be treated as long-term capital gains and will be exempt from tax.

If your withdrawals begin within a year, then the profit portion on your withdrawals will attract short-term capital gains tax at 10 per cent.

Any dividends that you receive from your equity fund are exempt from tax in your hands. But these are according to prevailing tax laws and you would need to watch out for any changes in the coming Budget.

Queries may be e-mailed to mf@thehindu.co.in, or sent by post to Business Line, 859/860 Anna Salai, Chennai 600002.

Aarati Krishnan

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