Everyone has some or the other kind of financial goals, no matter how big or small these might be, which they want to accomplish. Mutual Funds, here may seem an easily achievable investment option to go for; however one may still be perturbed about choosing its growth option or dividend option. The confusion may even go to the next level, with the dividend reinvestment option coming into picture. Even if one has the right fund option in mind, he/she may think of additional factors like making the optimum asset allocation, and accessing the risk appetite.
The selection of the right mutual fund option is as significant as the mutual fund itself. Therefore, before making decision of any kind, it is beneficial to know about these options in detail. So, let us proceed towards the same.
What is Growth Option?
Under this, the investment will not yield any short-term income; rather the money will continue and will remain invested unless redeemed. Thus, this will fetch returns in form of capital appreciation, not with a regular income.
Who can choose growth option?
This type is very well suited for investments into long-term equity mutual funds with a motive of capital appreciation. Although the equity mutual funds are prone to risks in short term, but in long-term they fetch good returns.
Additionally, since the fund does not have to pay out any monthly dividends, the net asset value from this is much higher than the dividend option for the same fund. However, one should note that the difference is only due to dividends' payment, not the considerable variation in fund performance.
This option is suitable for those who are investing in a debt fund for more than a year and don’t seek for regular income. By choosing a growth option in a debt fund, you are accountable for long term capital gain only when you withdraw. If you choose a dividend option in a debt fund, whenever they declare a dividend, the fund needs to deduct from the nav and pay dividend distribution tax. This can be avoided by choosing growth option.
This option lets the investors fetch payout in form of dividend. The option holds good for short-term investments. Debt mutual funds with this option are good for senior citizens, who require a steady flow of income and not just capital appreciation. With this option, investors have the benefits of moderate capital appreciation, in addition to the dividend returns in the holding period.
One should note that the compounding power is not as efficient as that of the growth option. Moreover, investors not depending on the dividend income, also have to face the risk of re-investing the dividend money in asset class offering good returns.
Keep in mind that this option does not have guaranteed dividends, and at time s, it happens even for the whole year.
This category includes the best of both worlds. It declares dividends, but does not issue the same in form of cash, but re-investment of that into the same MFs for fetching additional units. The growth option still seems a better choice, if you are planning to withdraw only after a year.
Taxation on growth funds is a simple calculation, with only capital gains involved. For equities, there is no tax for long-term, while only 15% for short-term capital gains. In case of dividend options the dividend is tax-free when in the hands of the investor. There is no dividend distribution tax for equity funds. But there is a dividend distribution tax of 28.325% for debt funds.
The key points summarizing the debate over selection of the right mutual fund option are:
>Growth option is purely a capital gain return investment, without any interim returns.
>Growth is good for equity and long-term investments.
>Dividend option has irregular dividend payouts, which are tax free in the investor’s hands.
>Dividends are best suited for short-term debt funds.
(Ramalingam. K an MBA (Finance) and certified financial planner. He is the director & chief financial planner of holistic investment planners).