"Returns matter a lot. It's our capital." - Abigail Johnson. This quote is self-sufficient to explain the value of the returns which the investors get on their investments.
Are you the one looking for a regular income? A regular income with low risk, right? Well, then this blog is undoubtedly a must-read for you!
When we hear about regular income, the first thing that comes to our mind is ‘Fixed Deposit’. The problem with fixed deposits is that they offer such low returns that it doesn’t even cover the inflation rate! But then, what is the solution? You will be surprised to know that a three-lettered word will solve your problem - “SWP”.
Let us explore it in detail.
What does SWP mean?
SWP in mutual funds is a quality investment plan that allows an investor to withdraw a fixed or variable amount of money from mutual funds on a monthly, quarterly, half-yearly, or annual basis as per their requirements. This is applicable in most mutual fund schemes.
As the name suggests, SWP helps investors to withdraw money from funds by redeeming units from the scheme that they have selected at the specified intervals. Investors can choose the day when they want the withdrawal and the amount to be credited to their accounts by the Asset Management Company (AMC). The number of units that are redeemed for the cash flow depends on the amount invested in the SWP and the scheme XYZ on the date of money withdrawal.
How does an SWP work?
Let’s understand it with the help of an example.
Let’s say Vineet decides to invest Rs 5 lakhs in an SWP policy. At Rs.25 per unit, he is allotted 20,000 units. He started a monthly SWP of Rs 3000 after one year (to avoid exit loads).
In the first month of SWP, let’s assume that the price was Rs 27. So, to generate Rs 3000, the AMC redeems 111.11 units (Rs 3000/27). Now the unit balance left would be 19888.89 units (20000-111.11). Now in the 2nd month, let’s consider the XYZ price to be Rs 27.50; the AMC would redeem 109.09 units (Rs 3000/27.5). Therefore the balance left would be 19779.79 units. This process would continue till the end of the investor’s SWP period.
In the above example, we can see that the number of units is reducing with time in the SWP policy, but the investment value is increasing at a higher percentage than the withdrawal rate. After the 2nd SWP payment, we can see that the fund’s value is Rs 543,944.23 (19779.79*27.5) - an increase in amount by Rs 43944.23. But if the scheme XYZ fails to rise, then the investment value would decline as well.
Types of SWP
Based on withdrawal options, SWP can be classified into two types:
It allows the investor to withdraw a specified amount at regular intervals by selling the units which had been allotted.
Here, the appreciated amount or the returns generated will be deposited into the investor’s account at the given date or time.
Benefits of SWP
SWP helps the investors by providing them with regular earnings from the investments. It’s very beneficial for those who need regular money for meeting their day-to-day expenses.
Like we saw in the above example, as the SWP withdrawal rate is less than the return of the funds, the investor gets increased capital. Most importantly, for individual investors, there’s no TDS on the SWP amount.
The investor has the liberty to decide the amount, duration, and frequency to invest. The investor can stop the SWP at any point in time.
Disadvantages of SWP
If the scheme in which the investor has invested falls or if the withdrawal rate is higher than the return, then the investor may suffer huge losses.
SWP is only limited to regular income and not for long-term investment.
SIP vs STP vs SWP
SIP: In SIP, investors can invest small amounts of money over a long period. This helps investors to average out their purchase cost and hence maximizes the returns in the long term.
STP: Like a SIP, an STP helps spread out investments over some time to average the purchase cost and rule out the risk of getting into the market at its peak. But with STP, the primary problem is that you invest your whole amount in one scheme only and transfer a fixed amount from that scheme to a different scheme.
SWP: SWP allows you to withdraw a specific sum of money from a fund at regular intervals. Such a system is particularly suited to retirees, who are typically looking for a fixed flow of income. SWPs provide the investors with protection from the market’s volatility.
Tax Implications of SWP
In the case of debt funds, if the holding period is less than 36 months, the capital gains are added to the investor’s income and taxed at the rate applicable. If the holding is more than 36 months, the gains are known as long-term gains and are taxed at 20%.
For equity funds, if the holdings are less than 12 months, they are treated as short-term gains and are taxed at 15%. On the other hand, if the assets are more than 12 months then it is long-term and is charged at 10%.
We can see that SWP can be beneficial as it is a regular source of earnings on your investment. SWPs can be an excellent strategy to invest in. Also, the returns are tax-efficient, and there is no TDS on gains. It seems to be a perfect investment avenue for fixed-income seekers.
However, SWP is only a technique; how your investment performs will largely depend on the fund you’re investing in. So, you must see if that actually fits your portfolio and only then, decide on the investment.