Dividend Mutual Funds Equity Schemes are generally sold by giving sales speech that these funds can generate regular income for the investor. However, this regular income (dividend) will reduce now as Dividend Distribution Tax is introduced in Budget 2018. DDT is imposed on Dividend Mutual Funds Equity Schemes from April, 1st 2018.
If you have already invested in Dividend based mutual funds or planning to invest in these type of schemes this post is for you. In this post, we will discuss Dividend Distribution Tax (DDT) and disadvantages of investing in Dividend Mutual Funds. We will also compare DDT and LTCG applicable on dividend and growth based mutual funds respectively.
Dividend Mutual Funds Equity Scheme – Should You Invest?
A dividend based mutual fund is no longer recommended for investment post-budget 2018. Few pointers in this direction are given below.
Dividend Distribution Tax
A new tax called as Dividend Distribution Tax is introduced in Budget 2018. The rate of this tax is 10% on the dividend paid. On the top of this tax, 12% surcharge and 4% Cess is applicable. DDT is applicable only to a dividend based equity mutual funds after 1st April 2018.
DDT will be paid by the fund house on the behalf of investors. This means dividend income on the hand of investor will reduce. Please note that dividend income on the hand of investor will be still tax-free.
Let’s try to understand DDT calculation by example. Suppose a company is paying Rs.100 as a dividend to the investor. DDT is, in this case, would be calculated as follow.
DDT = 100 x 10% = Rs.10
Surcharge of 12% is applicable on DDT = Rs.10×12% = Rs. 1.2
Cess @4% is applicable on DDT and Surcharge = 4% (Rs.10 +Rs.1.2) = 0.448
DDT+ Surcharge+ Cess = Rs.10 + Rs. 1.2 + Rs.0.448 = Rs.11.648
As you are getting Rs.100 as Dividend and DDT is Rs.11.648. So, NAV of fund will go down by Rs.111.648.
So, the effective rate of DDT is 11.648%.
Quantum of Dividend
When you invest in Dividend based mutual funds, you cannot control the quantum of a dividend. Distribution of dividend and quantum is based on the fund manager discretion. Fund Manager tries to meet an expectation of investor. However, if fund manager failed to fulfill expectation of investor or dividend amount is reduced investor cannot do anything.
Also Read – Top 5 Dividend Paying Mutual Funds in India
Dividend based on Profit
Dividend based equity mutual funds pay a dividend only from accumulated profit amount. If a fund is not doing well or if the stock market is down your dividend pay-out will get affected or you may not get dividend.
So, DDT and other disadvantages make Dividend Mutual Funds less attractive option for investment.
Growth or Dividend Mutual Funds?
Well, in order to compare growth and dividend mutual funds let’s compare LTCG and DDT. You must be aware that Growth based mutual fund is also under a tax regime. LTCG (Long-term capital gain) is applicable on growth based mutual funds. The effective rate of LTCG is 10.4%. LTCG is applicable to the capital gain amount exceeding 1 Lakh in a fiscal.
Few differences between Growth and Dividend Mutual funds post-budget 2018 are given below.
Looking at above points, it can be concluded that growth based mutual fund is better choice for investment compared to dividend mutual funds.
What is your choice of investment Dividend Funds or Growth Funds?
Do share your views and recommendation in the comment section.