Mutual fund houses offer two kinds of options to choose from that is Growth and dividend.
And in dividend plan we have again two options to choose from that is Dividend Payout or Dividend Reinvestment.
Choosing right funds from available schemes is always a tedious job for a newbie investor. Another dilemma is whether to go for growth or dividend option. Choosing the correct option is perhaps as important to the health of the investment as choosing the particular mutual fund is.
What one should consider at the time of selection is your investments needs and goals and whether you want to grow your money and keep investing for longer period or you are more interested in partial withdrawal in the form of appreciation from your investment in the form of dividend. Those who want to create wealth or have a goal to fulfill over a longer period of time should choose the growth or dividend reinvestment option. Typically, those with regular income flow are advised to invest in the growth option. Those looking for a regular income such as retirees, should pitch for the dividend option
What one should consider at the time of selection is your investments needs and goals and whether you want to grow your money and keep investing for longer period or you are more interested in partial withdrawal in the form of appreciation from your investment in the form of dividend. Those who want to create wealth or have a goal to fulfill over a longer period of time should choose the growth or dividend reinvestment option. Typically, those with regular income flow are advised to invest in the growth option. Those looking for a regular income such as retirees, should pitch for the dividend option
First Understand the options & how they are taxed now:
1. Growth option: The gains made by a mutual fund scheme are re-invested. Therefore, the net asset value (NAV) moves up. Growth investors earn by selling the scheme at a higher NAV at a later date. If you stay invested in a growth scheme for more than a year, your investment will be tax-free.
2. Dividend Payout option: The dividend payout option does not re-invest the profits made by the fund though its investments. Instead, it is given to the investor from time to time i.e the gains are periodically distributed as dividend, so the NAV drops to the extent of the dividend, whenever it is paid out.
3. Dividend Reinvestment option: Dividend re-investment is a facility to put the dividend back into the scheme, thereby buying up some more units. Dividend Reinvestment option is very similar to Growth option as in both the cases the value of fund keep increasing, only difference is NAV, that is in reinvestment person have more units where as in growth the person is having increased Nav. (but value of both the funds is very same, no great difference) in very simple words in growth the unit value keep increasing whereas in dividend reinvestment units gets increasing.
The other great advantage of choosing reinvestment option is one can change able to change the option from dividend reinvestment to dividend payout by simply filling the switch form and can easily switch as per the changing investment needs, where as in Growth option this is not possible as for that switch the person have to pay STT (security transaction tax as in such case switching means first redeeming the units and then buying units in dividend option).
TAX TREATMENT OF INVESTMENTS (Dividend)
Dividend Distribution Tax in equity Funds:
By virtue of proviso to section 115 (R) (2) of the Act, equity oriented schemes are exempt from income distribution tax. As per section 115T of the Act, equity oriented fund means such fund where the investible funds are invested by way of equity shares in domestic companies (as defined under the Act) to the extent of more than sixty five percent of the total proceeds of such fund.
Dividend Distribution Tax for debt funds:
i) For Money Market and Liquid Schemes:
As per section 115R of the Act, the dividend distribution tax for Money Market and Liquid Fund is 25% plus surcharge.
ii) For Schemes other than Money Market and Liquid Schemes:
As per section 115R of the Act, income distribution tax shall be levied at 12.5% plus surcharge for distribution made to individuals or HUF and for any other person at 20% plus surcharge.
Changes Post Direct Tax code:
The Direct Taxes Code Bill, proposes to impose a five per cent dividend distribution tax on mutual fund houses and life insurers on income distributed by them.
This norm is applicable to mutual fund scheme and insurance policy that invest over 65 per cent of the total proceeds in equity shares, or equity-oriented mutual funds. Rest of the schemes and policies would be taxable on the income-tax rates.
So, if you have opted for the dividend option of a mutual fund scheme, you stand to earn slightly less once DTC comes into effect from April 2012.
Currently, there is no DDT applicable to equity fund schemes or insurers on income distribution to unit/policy holders. Debt schemes pay 14.16 per cent for individuals on dividend distribution.
Experts say the dividend yield for most mutual fund schemes is in the range of 6-8 per cent.
Say, your scheme earns a dividend of 8 per cent, after paying 5 per cent as DDT you will earn 7.50 per cent. Your dividend income will suffer a dent of 50 paise.
Conclusion: So post Direct Tax code its better to go with growth option to avoid 5% dividend distribution tax on dividend option in equity funds.
2. Dividend Payout option: The dividend payout option does not re-invest the profits made by the fund though its investments. Instead, it is given to the investor from time to time i.e the gains are periodically distributed as dividend, so the NAV drops to the extent of the dividend, whenever it is paid out.
3. Dividend Reinvestment option: Dividend re-investment is a facility to put the dividend back into the scheme, thereby buying up some more units. Dividend Reinvestment option is very similar to Growth option as in both the cases the value of fund keep increasing, only difference is NAV, that is in reinvestment person have more units where as in growth the person is having increased Nav. (but value of both the funds is very same, no great difference) in very simple words in growth the unit value keep increasing whereas in dividend reinvestment units gets increasing.
The other great advantage of choosing reinvestment option is one can change able to change the option from dividend reinvestment to dividend payout by simply filling the switch form and can easily switch as per the changing investment needs, where as in Growth option this is not possible as for that switch the person have to pay STT (security transaction tax as in such case switching means first redeeming the units and then buying units in dividend option).
TAX TREATMENT OF INVESTMENTS (Dividend)
Dividend Distribution Tax in equity Funds:
By virtue of proviso to section 115 (R) (2) of the Act, equity oriented schemes are exempt from income distribution tax. As per section 115T of the Act, equity oriented fund means such fund where the investible funds are invested by way of equity shares in domestic companies (as defined under the Act) to the extent of more than sixty five percent of the total proceeds of such fund.
Dividend Distribution Tax for debt funds:
i) For Money Market and Liquid Schemes:
As per section 115R of the Act, the dividend distribution tax for Money Market and Liquid Fund is 25% plus surcharge.
ii) For Schemes other than Money Market and Liquid Schemes:
As per section 115R of the Act, income distribution tax shall be levied at 12.5% plus surcharge for distribution made to individuals or HUF and for any other person at 20% plus surcharge.
Changes Post Direct Tax code:
The Direct Taxes Code Bill, proposes to impose a five per cent dividend distribution tax on mutual fund houses and life insurers on income distributed by them.
This norm is applicable to mutual fund scheme and insurance policy that invest over 65 per cent of the total proceeds in equity shares, or equity-oriented mutual funds. Rest of the schemes and policies would be taxable on the income-tax rates.
So, if you have opted for the dividend option of a mutual fund scheme, you stand to earn slightly less once DTC comes into effect from April 2012.
Currently, there is no DDT applicable to equity fund schemes or insurers on income distribution to unit/policy holders. Debt schemes pay 14.16 per cent for individuals on dividend distribution.
Experts say the dividend yield for most mutual fund schemes is in the range of 6-8 per cent.
Say, your scheme earns a dividend of 8 per cent, after paying 5 per cent as DDT you will earn 7.50 per cent. Your dividend income will suffer a dent of 50 paise.
Conclusion: So post Direct Tax code its better to go with growth option to avoid 5% dividend distribution tax on dividend option in equity funds.
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