Investing in a Monthly Income plan is essential to meet your monthly expenditure needs. They are mostly oriented towards retirees and risk-averse investors who do not wish to risk a volatile market. The full corpus of the MIP goes into the debt-related funds and the remaining in stock. It is important to deliver as per the name; that is, it does not deliver fixed monthly income and is largely dependent on return on assets and investments.
What are monthly income plans?
Mutual Funds that are largely focused on capital reserves investing in debt-related securities and equities generating cash flows regularly are known as Monthly Income Plans. MIPs are moderate risk schemes provided by various mutual funds houses and banks. Investors have the luxury to withdraw their investment funds into a systematic withdrawal plan as per their convenience and needs. Mutual funds also give returns on their investments based on profit earned.
Who should you invest in a Monthly Income Plan?
The correct ratio of debt and equity is the portfolio managers' art, which helps the retirees and conventional investors earn handsome returns on their investments (ROI) and have a steady income. Such saving plans cater to the urgent/ unfortunate expense needs. People who belong to the group of higher tax brackets ideally consider such schemes for higher tax efficiency whereas individuals who are part of the lower tax bracket and wish to improve their scope of earning tend to consider the growth-oriented option of such schemes. This helps them earn higher returns and also reduces their associated tax burden.
Types of Monthly Income Plans under Mutual Funds
Mutual Funds provide several options for the investors which cater to their different needs. The MIPs under Mutual Funds are less risky than the equity funds and tend to offer slightly better returns than pure debt funds.
There are two types of investment options that are known as the best monthly income schemes. These earn dividends and accelerate wealth creation: -
1. Dividend- oriented monthly investment plan Under this scheme, the AMC house distributes the surplus corpus generated by the ROI in the way of dividends that are tax-free in an investor's hands. These dividends are paid to the investor, quarterly, bi-annually, or annually from the distributable surplus.
2. Growth-Oriented monthly income plan
This scheme is a wealth creation scheme in which return on investment is added to the invested capital to create a corpus available for bigger capital and future needs. At maturity, investors are paid in a lump sum amount.
3. Systematic Withdrawal plans
Suppose the individual wishes to have certainty in his/her income flow the systematic withdrawal plan is the best option that allows the investor to withdraw a certain fixed amount from the MIP every month depending on their needs. The investors are also given a choice to withdraw only the portion that has grown every month. With this, returns become uneven in such schemes, but it keeps the invested fund's capital portion untouched.
Key Advantages of Monthly Income Plans
- Lower Volatility: Equity Funds are subject to market risk, and so are the MIPs. In such cases, the investors opt out of the market, but the MIP corpus is invested into debt-related funds which give steady and better returns on investments.
- High Liquidity: MIPs are highly liquid and allow the investor to opt-out anytime in urgent needs. There is no lock-in period on the scheme; however, if a bank deposit is withdrawn, the individual gets a lower interest rate.
- Lower Expenses: As the AMCs invest in the fixed portion of stocks and bonds available, fund managers ideally play in large-cap stocks only. Hence the portfolio management expenses are very low in these schemes.
- Diversification: MIPs is a mix of debt and equity. When the equity market is low, the debt portion of the investment stabilizes the capital erosions and returns and vice versa. Even when the market is bear, the debt portion investment returns guarantee the investors' assured returns. MIPs do not do well in a bull market. In addition to this, when the share price tends to rise, fund managers sell stocks in these funds to maintain the equity-debt ratio.
- No Limit: The investor is free to invest any time in the scheme as per their capacity and requirement. The scheme is also flexible as it has no upper limit of investment.
- Open-ended option: Investors can invest in the MIPs without exercising any entry load to enter the scheme. It also lets the investor walk out of the scheme anytime with less than 1% exit load.
- Lower Risk: The MIPs are known to be associated with lower risk components as the money invested in low-risk securities such as preference share, debentures, bonds, and fixed income instruments, and dividend stocks.
- Curbs Inflation: Investment into the equity portion gives higher returns even during inflation as it earns higher returns in favourable stock market conditions.
Disadvantages of MIPs
- Risk: Monthly Income plans carry a certain risk. The fluctuation erodes the investors' capital. MIP is NAV based and drops according to the proportion of the equity in the fund. The MIPs are also exposed to interest rate risk.
- Regular income is not guaranteed: Even though the scheme is called a monthly income plan, the outcome does not follow the scheme's name. AMCs distribute dividends only when they have surpluses available. If the stock market is bear, fund houses pile up on losses, resulting in lower and non-guaranteed income on investments.
- Difficult to compare: Comparison is difficult in the MIPs as it can only be compared with similar schemes. E.g., best funds schemes. On the contrary, equities can at least be compared with Sensex or via a vis to index.
- Lack of focus: As MIP has both sides of the coin, it depends on the fund manager's expertise and skills as to whether he/she balances the debt-equity ratio, which lets the investor get higher returns. It is foremost to understand that such predictions are based on the fund manager's judgment and may go wrong, resulting in lower returns.
- Exempts Switching: If the investor wishes to invest a higher amount in equity to gain more exposure, the same option is not available under MIPS.
Know how to choose the right monthly income plan
Choosing the right MIP is very integral for your monthly income goal, and it is important to know which plan under mutual funds suits your needs.
- Maturity Profile: While investing in MIPs, the investor should look for the maturity time frame for fixed income securities like government bonds that have a longer maturity period and are risk-prone to the interest rate which may get government policies on curbing inflation. E.g., Government may change the interest rate on longer duration maturity bonds which may impact the return rate.
- Monitor Performance: The data for all mutual fund returns are available on various financial sites and platforms. Best MIPs can be selected based on one month to five-year returns based on how the MIP scheme performs in the given period. There are also financial sites that suggest and compare the best plans for you.
- Choice-based risk: If the investor plans to go in for higher risk and high returns, then he/she can opt for MIP with an equity component of 25-30 per cent. Whereas the MIPs are also a good option for risk-averse investors who do not wish to get exposed to a higher equity component.
Mutual Fund Monthly Income Plans and its Tax Implication
The MIPs under mutual funds are treated as non-equity funds.
1. Debt Oriented Schemes- Hence the long-term capital gains (LTCG) tax applies to units held for either 3 or more years.
2. Short Term Capital Gains (STCG) tax applies to units held for less than three years.
3. The STCG tax rate on MIPs is set as per the investor's income tax bracket while the LTCG tax rate is at 20%. (with indexation)
4. If the investor chooses the dividend option under the MIP, then any dividend income received from MIP is set to be tax-free in investors' hands.
The monthly income plans under mutual funds are safe and easy options for the investor to explore the market fluctuations. The investor must understand and pay close attention to their income needs and risk tolerance while choosing to invest in a Monthly Income Plan. MIPs offer a steady income for retirement living needs, and proper monthly budgeting helps avoid the risk of overspending. Individuals should also take into account and further study the market conditions before investing in the MIPS. The investors are advised to have some pre-knowledge about the required budget and goals they wish to achieve.