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The dilemma of choosing between Growth or Dividend options of a mutual fund scheme can be one of the most confusing decisions that you need to make while investing. Both of these options have their own advantages and disadvantages, and deciding which is a better fit will almost always depend on your individual needs and circumstances. Let us try and understand each of these options better - so that the next time you have to choose, it is a far more considered decision.

GROWTH OPTION

  • In the growth option of a mutual fund scheme, all profits made by the fund are ploughed back into the scheme. Hence, the NAV increases over time compounding your principal. This is similar to the cumulative option in a bank fixed deposit where interest is put back into the fixed deposit account that then sees an exponential growth over a period in time. As an investor, you will have to redeem the units in the fund to realise the growth in the value of the investments.

DIVIDEND OPTION

  • In the dividend option of a mutual fund scheme, the profits made by the fund are distributed to the unit holders from time to time. Dividend option should be chosen if there is an expectation of periodic income from your investment without actually redeeming any of the units.

    As an investor, you must remember that the Net Asset Value (NAV) of the fund always reduces by the dividend amount paid out to the investors and that any repurchase after the dividend payout date is made at the ex-dividend NAV.

    Growth Vs. Dividend Options – An Example (assuming no dividend distribution tax)

Let us take an example to illustrate the difference between the two options:

  • Assume that you have Rs.1000 invested respectively with 100 units each in the growth and dividend option of a fund.
  • The NAVs of the growth and the dividend options are at Rs.20/- each.
  • Say that the fund declares a 20% dividend. On a face value of Rs.10/- per unit, the dividend payout will be Rs.2/- per unit held.
  • Your investment in the dividend option will yield a dividend of Rs. 200 (Rs.2/- x 100 units). The NAV of the dividend option will now fall to Rs.18/- (NAV Rs.20/- – Rs. 2/- of dividend).
  • If you now redeem all your units in both the options, the investment in the growth option with yield Rs.2,000 (NAV Rs.20/- x 100 units) while that in the dividend option will give you Rs.1,800/- (NAV Rs.18/- x 100 units).
  • However, since you have already received a dividend of Rs.200/-, the total yield from both these investments are exactly the same (Rs.2,000/- in Growth Option & Rs.1,800/- through redemption of units + Rs.200/- in dividends in Dividend Option).

Growth Or Dividend Option ?
Let Cash Flow Needs and Tax Outgo Help You Decide

The choice between these 2 options should primarily be driven by your cash flow requirements. If you do not have any periodic liquidity needs, you may choose the growth option. The returns in the growth option will be reflected in the movement of the scheme’s NAV. On the contrary, if you need regular cash flows from your investments, then choose the dividend option. However, please note that dividend payment is not assured and there may not be any dividends if the fund fails to generate any surpluses.

As far as the tax treatment is concerned, dividends are tax free in the hands of the investor but the AMC deducts a dividend distribution tax (DDT) on behalf of the investor and passes it onto the government.

For money market mutual funds and liquid funds, there are 2 applicable rates: (a) for individual / HUF investors, it is 27.0375% (inclusive of surcharge and education cess) and (b) for corporate investors, a DDT of 32.445% (inclusive of surcharge and education cess) is applicable. For fixed income fund (other than money market funds and liquid funds), there are 2 applicable rates: (a) for individual / HUF investors, it is 13.5188% (inclusive of surcharge and education cess) and (b) for corporate investors, a DDT of 32.445% (inclusive of surcharge and education cess) is applicable.

As per the current laws, the taxation on growth option depends on the holding period: returns from mutual fund units for a period of less than a year attract short-term capital gains and returns from units held for more than a year attract long-term capital gains tax.

As always, we recommend that you take the expert advice of a financial advisor to help you identify an option that best suits your financial needs and tax status.

 

As always, we recommend that you take the expert advice of a financial advisor to help you identify an option that best suits your financial needs and tax status.

Happy Investing!

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