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Most investors are familiar with SIPs, an option that allows investing a manageable sum of money over the long term. However, not many plan on how they would want to receive money at the time of distribution or redemption. Many are not sure what to do with the lump sum received during redemption. This is the time to think about a systematic withdrawal plan (SWP). SWPs are also more tax efficient in case of withdrawals from debt-oriented mutual funds in comparison to dividend options and bank fixed deposits (FDs).

What are SWPs?

SWPs allow investors to redeem a fixed amount of their investments from their mutual funds on a pre-determined frequency. The amount withdrawn can be used to meet planned and unplanned expenses as well as to re-invest according to an individual's life stage/asset allocation plan.

SWPs are primarily of two types:

Fixed withdrawal: Investors need to specify the amount they want to withdraw from their investments on monthly, quarterly, half yearly or yearly basis. For instance, to pay the daughter's monthly tuition fees (a fixed amount for any particular year), an investor could opt for a monthly SWP with the required amount payable before the tuition fee date.

Appreciation withdrawal: Investors can choose to withdraw only the appreciation amount on the investment which will vary, based on the amount of appreciation and keep the capital intact. This is useful for investors who want to book profits on their investments. For instance, an investor with a portfolio of Rs 10 lakh in an equity mutual fund may want to book profits on every 10% gain in the portfolio. This appreciation can be used by the investor for his planned/unplanned needs and/or park the profits in safer investment avenues such as liquid funds or even pay off his home loan EMI.

Investors can combine an SWP with a systematic transfer plan (STP) to gain further advantage. STPs allow investors to transfer a predefined amount on a specified date from one particular scheme to another by giving a onetime instruction to the fund house. Through STP, investors can transfer funds received from equity schemes — via SWP — to debt schemes or money market schemes, or vice versa.

Benefits of SWPs

Inculcates discipline: A disciplined approach is one of the key requirements for any long-term financial success. Investors who receive lump sum money at the distribution stage may end up spending or mismanaging their funds. SWP ensures one receives the amount in parts rather than the whole so that the spending is planned effectively.

Customise outflows: For regular income, most investors look at the dividend option of mutual funds. However, these schemes offer no assurance of paying dividends in terms of amount as well as intervals. For instance, an individual needs Rs 10,000 per month on a particular date, but the date and amount of the dividend to be declared may not match the individual's requirement. Here, investors can use SWPs to customise their requirement.

Tax efficiency: Tax efficacy is another key advantage of SWPs which gives them an edge over other more popular options like dividends from debt mutual funds and returns from bank FDs. Mutual funds have to pay a dividend distribution tax (DDT) of 28.33% (effective June 1, 2013) on dividends declared by debt mutual funds. FDs are taxed according to the individual's income tax bracket at source (30.9% at the highest tax bracket). Compare this with SWPs where incidence of taxation only occurs on the capital gains portion of the units redeemed at 10.3% without indexation and 20.6% with indexation.

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