Monthly Income Plans or FD’s?

Mutual Funds | admin | February 14, 2011 at 10:00 am

Monthly Income Plans , or MIPs, are hybrid instruments that invest a small part of their portfolio (around 5-25 %) in equities and the remaining (75-95%) in debt and money market instruments. Their portfolio is essentially biased towards debt, but a small exposure to equity is added as a kicker. MIPs aim to give a monthly income to investors. The investor can decide the periodicity at which he wants dividends, which could be monthly, quarterly, half-yearly or annually. In addition to this, a growth option is also available, where gains come in the form of capital appreciation.

MIP returns are market-driven. That means, the fund manager is under no obligation to declare a monthly dividend, though most fund houses try their level best to declare dividends regularly. This is the main difference between MIPs and fixed deposits (FDs) that offer assured interests. However, compared with FDs, MIPs are tax-efficient as dividends declared under MIPs are tax-free.

Some other points which you must know about MIP:

1) MIPs are schemes created by mutual funds that seek to generate regular income. There is no guaranteed rate of return.

2) MIPs invest primarily in debt instruments, but hold a small portion in equity (between 5 and 35%), to enable growth in investments.

3) Investors can choose from growth and dividend options in an MIP, depending on their need and tax status.

4) Investors choosing a growth option can redeem a part of their units regularly using a systematic withdrawal plan to generate regular income.

5) Withdrawals are subject to capital gains tax, but an investor who falls in the tax-free or low-tax category, can use it to reduce his tax outgo.

6) The dividend distributed by an MIP is tax-free in the hands of the investor, but is given after a dividend distribution tax has been paid directly by fund.

Typically, retired people or those nearing retirement (in their late 50s) can opt for MIPs as they can generate an adequate income flow that can help them meet their monthly expenses. However, investors should remember that dividends are not guaranteed. If the stock market runs into rough weather, the fund manager may not declare dividends for that period. This is a risk the investor should be able to factor in. In short, MIPs can only be an additional source of income to the regular income form pension, annuity and so on.

Apart from retirees, novices to the market who wish to take a small exposure to equity can also consider investing in equity. The modest equity exposure will generate extra income, while the debt portion will preserve the capital. They can also pocket extra returns, thanks to the stocks in the portfolio. However, always remember that equity is a risky investment option, despite the fund manager’s best effort it could underperform in certain periods due to bad market conditions.

Source: Economic Times