The next type of investment that we will discuss is Mutual Funds. We will also learn the different types of mutual funds available in the market and their benefits, but first, let us understand the concept of mutual funds in this unit. So, let us start:
A mutual fund pools the money of many investors and uses this money to invest in market securities like equities, bonds etc. Asset Management Companies (AMCs) run mutual funds. They have different mutual fund schemes. When investing in mutual funds, retail investors need not worry about individual buying and selling of securities. Each scheme has professional Fund Managers who manage the fund and take decisions regarding buying and selling of securities. One can start investing in Mutual Funds with an amount as low as ₹500 in urban areas and ₹100 in rural areas. The Securities Exchange Board of India (SEBI) and The Association of Mutual Funds in India (AMFI) are the regulator bodies of the mutual fund industry.
Mutual Funds are liquid as well. However, liquidity depends on whether the scheme is open-ended or close-ended. Open-ended funds are always available for buying and selling at the current Net Asset Value (NAV). One usually receives money in 3 days after redemption. Closed-ended funds have a lock in period. One can only invest in them at the time of initial offer. These funds are then listed on stock exchange for buying and selling. However, it is not wise to sell these funds after listing as one would have to sell at a lower NAV. It is advisable to hold on to these funds till the lock-in period is over.
Types of mutual funds:
There are different types of mutual fund categories in India, such as Equity mutual funds, Debt mutual funds, Hybrid mutual funds, and others like Index Funds, ETFs, Fund of Funds (FoFs) etc. Kindly read this module to have clarity on the different types of mutual fund schemes in India.
Benefits of Mutual Fund:
Let us now discuss some benefits offered by mutual funds.
Some of them are listed below:
- Mutual Funds spread money across a large number of investments hence reducing the risk of a loss.
- Mutual Fund schemes are managed by professionals. They take care of buying and selling of securities. Hence investors don’t need to worry about the buying and selling themselves.
- There are different varieties of mutual funds that suit the needs of individuals.
- Both, investing as well as redemption from mutual funds is easy.
- Mutual Funds are tax efficient. If individuals keep buying and selling stocks, they would have to pay taxes on each profitable transaction. However, that is not the case in mutual Funds. The fund manager can keep buying and selling to maximise profits. The individual will only have to pay a tax at the time of redemption of units.
- There is transparency in the operation of funds. The holdings and activities of each scheme are published.
- Through mutual funds, people get to invest in such assets which is not possible if they want to do it individually.
What is Load and How to exit from a Mutual Fund?
Load is a fees charged by an AMC which is a small percentage of the investment made. Usually funds charge 1% exit load when an individual redeems all unit before one year. Load varies across different schemes.
One can exit from mutual funds either by completing the formalities online or offline. It is quite easy to exit mutual funds.
Mutual Funds Vs Shares
For most investors, investing in equity mutual funds is more viable as they get the gains of stock investing with less hard work. However mutual funds carry a fee and are subject to certain constraints. Thus, investors who are willing to devote a reasonable amount of time to analysing and evaluating stocks may find stock investing more suitable.
Only investment in ELSS funds up to ₹150000 qualify for tax exemption under Section 80C.
For equity oriented schemes, there is a long term capital gains tax of10% on gains exceeding ₹1 lakh. Long term capital gains apply to units held for more than 12 months. There is a short term capital gains tax of 15%. Short term capital gains apply to units held for less than 12 months.
For schemes other than equity oriented scheme, there is a long term capital gains tax of 20% and short term capital gains are taxed as per the individual’s tax slab. Here, long term capital gains apply to units held for more than 36 months and short term capital gains apply to units held for less than 36 months.
Risk associated with Mutual Funds
Capital protection is not guaranteed in mutual funds. Mutual funds invest in market linked securities hence losses are not inevitable. However, one can beat inflation if invested in good equity oriented schemes over a period of time.
How to invest in Mutual Funds?
One can invest directly by contacting an Asset Management Company. These AMCs offer direct plans which offer higher returns as they have a lower expense ratio. One can also get in touch with intermediaries who sell schemes of mutual funds. A list of intermediaries is mentioned on the Association of Mutual Funds of India (AMFI) website www.AmfiIndia.com
One needs to complete the Know Your Customer (KYC) process by providing relevant identity and address proofs.
“Systematic” Ways of Investing
Some systematic ways of investing and redeeming money from mutual funds are mentioned below:
- Systematic Investment Plan (SIP): It is an investment strategy where one needs to invest a fixed amount in a particular mutual fund at fixed intervals, for example, monthly, quarterly etc. SIP helps to average out the price. If one starts a monthly SIP, then each month an amount would be deducted from the investor’s bank account and it would be used to buy units of a mutual fund scheme. The number of units bought would depend on the Net Asset Value (NAV) of the scheme on that day. SIP helps people solve the problem of timing the market. It is a good way for capital appreciation in the future.
- Systematic Withdrawal Plan (SWP): This plan enables investors to withdraw a fixed or variable amount from the mutual fund scheme on a pre-decided date be it monthly, quarterly etc. SWP provides the investor with a regular income and returns on the money that is still invested in the scheme.
- Systematic Transfer Plan (STP): This plan allows investors to periodically transfer a certain amount / switch (redeem) certain units from one scheme and invest in another scheme of the same mutual fund house. Thus at regular intervals an amount/number of units that an individual chooses is transferred from one mutual fund scheme to another of the individual’s choice. This facility thus helps in deploying funds at regular intervals.