In simple terms, Monthly Income Plans (MIPs) are debt-oriented mutual funds that invest in a mix of stocks. Owing to this nature they are also classified under hybrid funds and the payout is mostly monthly with an objective to provide the investor with a periodic income.
What is a Monthly Income Plan?
These mutual funds invest in both debt/money market instruments as well as listed or unlisted equities. These hybrid funds are, however, mainly invested in debt instruments which may constitute up to 80% of their portfolio, and the remainder is invested in equities, making it a debt-oriented hybrid fund. Due to the hybrid nature of the portfolio of MIPs, they are ideally placed to provide low-risk consistent returns commonly associated with debt market investments, along with potentially high returns offered by equity investments.
Although the name “monthly income plan” might suggest guaranteed returns to a novice investor, like all mutual fund investments, these are subject to a degree of market risk, hence returns are not guaranteed. The income that an investor is liable to receive from this type of hybrid fund depends on the availability of a distributable surplus, which is paid out in the form of dividends. Hence in the absence of such surplus, the investor will not receive a payout. That said, as per historical records of MIPs, the returns provided by these mutual funds have been significantly higher than those offered by fixed deposits. Hence, they are often a preferred low-risk route for investors seeking to invest in a conservative fashion.
Leading Monthly Income Plans
The following is a short list of leading monthly income plans available to an individual investor in India.
Table1. Key Information about leading MIPs in India*
|Fund Name||1 year Returns||3 year Returns||5 Year Returns|
|ICICI Prudential Regular Savings Fund||8.14%||10.60%||11.38%|
|UTI Regular Savings Fund||6.03%||8.81%||10.23%|
|SBI Debt Hybrid Fund||4.07%||7.56%||9.49%|
|Franklin India Debt Hybrid Fund||5.52%||7.16%||9.40%|
|Kotak Debt Hybrid Fund||4.24%||8.32%||9.51%|
|IDFC Regular Savings Fund||2.88%||8.25%||9.12%|
|Reliance Hybrid Bond Fund||6.47%||8.2%||9.93%|
|SBI Multi Asset Allocation Fund||3.27%||7.11%||9.38%|
|Sundaram Debt Oriented Hybrid Fund||2.24%||7.34%||9.79%|
|DSP Regular Savings Fund||-2.12%||6.26%||7.68%|
*The above figures are for illustrative purposes only and subject to periodic change.
How do Hybrid Funds Generate Returns?
Hybrid funds invest in both debt/money market instruments and equities hence they can potentially generate returns from multiple routes. In the case of debt investments, income is generated income from the coupon rate i.e. interest accrual route, which may be distributed as a dividend or reinvested to make the Assets Under Management (AUM) of the fund grow. Alternately, the fund may buy or sell its investments in the bond market to generate further capital appreciation for the investors. The second route of buying and selling money market investments to generate additional income is usually a less popular route for income generation in the case of a hybrid fund.
Generating returns from equity investments made by a hybrid fund, is usually through capital appreciation by trading of shares on the stock market. Additionally, a secondary source of income/gains for the fund would be through periodic bonuses or dividends received in lieu of shares held by the mutual fund. Thus hybrid funds have multiple sources of income at their disposal while featuring a relatively lower level of risk as compared to pure equity investments. Hybrid funds such as monthly income plans can become the go-to option for investors with a lower risk appetite.
Options for Monthly Income Plans
As in the case of most mutual funds, there are two key options that are available to individuals making debt fund investments – growth and dividend.
Growth Option: This is the preferred route for investors seeking capital appreciation of their investment instead of returns through dividends. Any profits generated in this case are reinvested by the fund management to grow its portfolio which increases the unit NAV as well as the AUM of the fund. The investor is liable to receive the benefits of his/her investment at the time of redemption or switching.
Dividend Option: MIPs are capable of paying out distributable surplus similar to shares either in the form of monthly, quarterly, biannual or annual payouts. However, such payouts cannot be guaranteed by the mutual fund. When a dividend is declared, it is declared on a per unit basis and the NAV of each unit decreases by an equivalent amount. In this case, capital appreciation of the principal invested is a secondary concern for the fund management as well as for the investor. There are two subtypes of the dividend option – dividend payout and dividend reinvest. In the case of dividend payout, the investor receives a payout directly to his/her registered bank account based on the number of units held. When the dividend reinvest option is chosen, the investor receives additional units of equivalent value to the dividend provided. These extra units, over and above the original investment, provide capital gains to the investor when units of the fund are redeemed or switched at a later date.
Key Features of Monthly Income Plans
If you are looking to invest in MIPs here are a few characteristics you should consider:
Exposure to Debt as well as Equity Market: Investment exposure to both debt and equity markets. Debt market investments are susceptible to interest rate fluctuations. Equity investments are subject to the volatility of share markets. Both reflect on returns generated.
Exit Loads and Additional Expenses: Entry load was abolished by SEBI. However, exit loads still apply to MIPs of around 1% when you redeem or switch units before the completion of one year. In some cases, this time period can be longer or the exit load higher. A higher expense ratio represents a lower return of investment in the long term and thus investors should keep this in mind.
Dividends/Regular Income is not Guaranteed: Fund houses may not always declare dividends or even if they do a distributable surplus is required for payouts (these are not paid from capital). Investors should be aware that the expected monthly/quarterly/bi-annual or annual payouts may not always be received. This could happen in the case of poor performance by hybrid funds when bond and equity markets are in turmoil.
Balance of Risk and Return: While the conservative or risk-averse investor might feel ill at ease when investing in a plain vanilla equity fund, pure debt funds might also be a poor choice due to lower returns. In such cases, a hybrid mutual fund such as a monthly income plan is probably the ideal choice, as it creates a balance of moderately high returns with a relatively low amount of risk to the principal amount invested.
How are Monthly Income Plans Taxed?
Although dividends from MIPs are not subject to income taxes, they are subject to dividend distribution tax of around 30% which is payable by the mutual fund house to the relevant government agency. For example, if the fund house declares a Re. 1 per unit dividend, approximately Re 0.30 per unit is payable to the government as dividend distribution tax. The fund house directs this to the investor as part of the expense ratio of the fund. However, the dividend then received is not taxed further.
Since MIPs are debt-oriented they are categorized as non-equity mutual funds and taxed according to the applicable rules. MIPs also come under the tax rules for short- and long-term gains. These rules are applicable to monthly income plans if the units have been held for less than 3 years from the date of allotment. Any profits/gains obtained from redemption/switching your investment at this stage is taxed as per the applicable tax slab of the investor. The profits thus booked are added to the net taxable income of the investor under the “income from other sources” head and taxed according to the applicable slab.
Long-term capital gains are applicable to monthly income plan units that have been held for over 3 years from the allotment date. In case such units are switched or redeemed, the profits obtained are subject to a tax rate of 20% with indexation benefits. In case indexation benefits are not available or availed, the applicable tax reduces to 10%.