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How to make the most of your Systematic Withdrawal Plan (SWP)

The tool of SWP is helpful for investors who want regular cash flows for meeting their expenses.

SWP ensures regular cash flow. If an investor has a sizeable lump sum amount to invest for instant regular withdrawal, opt for SWP as soon as the investment is made.

Systematic Withdrawal Plan, popularly known as SWP, is an investment feature available with mutual funds through which investors can withdraw from their existing investments in the form of fixed amounts at regular intervals. Withdrawals can happen monthly, quarterly, half yearly or annually on dates chosen by the investors. It ensures a regular cash flow for your income needs.

SWP is the opposite of Systematic Investment Plan (SIP). In the latter, a fixed amount is transferred on a regular basis from your bank account to the mutual fund while in the former the flow of transaction reverses. The tool of SWP is helpful for investors who want regular cash flows for meeting their expenses.

How does SWP work?

An SWP allows you to withdraw a fixed amount regularly from your investments in a mutual fund scheme. When an investor opts for an SWP, he systematically receives his own money from the ongoing investment by redeeming some mutual fund units.

Simply put, a part of your mutual fund units holding will be sold to honour the amount of payout you have specified on a regular basis. Payments through SWP would continue as long as you have units left in your holding if a duration for the SWP is not provided.

For instance, if you have invested a lump sum of Rs 1 lakh in a fund with an NAV of Rs 10, you will have 10,000 units of that scheme.

If the amount that you wish to withdraw, let’s say, every month is Rs 1000; the fund will sell units worth Rs 1000. Suppose, if you start the SWP after a year and the NAV is at Rs 20 when the withdrawal day comes.

So, the fund will sell 50 units of yours and get you the required sum of Rs. 1000. This would result in a reduction in the number of your units to 9,950.

In case the NAV reaches Rs 25 at the next payout day, the fund will sell 40 units to honour the Rs 1000 payout and your number of units will further reduce to 9,910.

Let’s understand this in actual terms. Suppose you have started an SWP for Rs 1000 on a lump sum investment of Rs 1 lakh for 5 years in an equity mutual fund scheme.

The expected rate of return, say, is 10%. In the span of 5 years (60 months), you will get a total payout of Rs 60,000 while the value of the rest of your investment post completion of 5 years will be Rs 84,490. So, essentially, investors keep getting their regular monthly cash flow by redeeming units while the rest of the units keep appreciating along with the market valuation.

How to make the best use of SWP

SWP ensures regular cash flow. If an investor has a sizeable lump sum amount to invest for instant regular withdrawal, opt for SWP as soon as the investment is made. However, it is advisable that investors should start an SWP in their equity scheme at least one year after the investment to save on the short term capital gains tax of 15%.

If one is better financially planned, SWP features should be added after a couple of years, say 5-7 years, as this time duration helps capital appreciation. It helps to have a larger quantum of regular cash flows.

Moreover, investments made through the SIP mode can also be added with the SWP feature whenever you want. If you have been investing through an SIP till your retirement and do not want to invest more, you should consider stopping the SIP but not complete redemption. Rather, the best way to reap the benefit of the sizeable corpus is by way of SWP. This way, a regular monthly flow will be more like a pension for you and can sustain your needs for quite a longer duration of time because the rest of the corpus will remain invested and continue to appreciate.

It is worth adding that despite the SWP, you are free to redeem more whenever the need arises.

Taxation on withdrawals through SWP

The regular redemption of units using the SWP feature is subject to taxation. If you have investments in equity funds and the holding period is less than a year, your short-term gains resulting due to redemption via SWP will attract an STCG tax of 15%. However, if the holding period of investment is more than 12 months, the gains over and above Rs 100,000 thus realised will be subject to 10% LTCG tax without indexation. So if you realised your units with an LTCG of Rs 125,000, you need not pay taxes on the first Rs 100,000, but the rest Rs 25,000 will be taxed at 10%, resulting in a tax of Rs 2500 plus applicable cess.

On the other hand, on debt funds, if your holding is less than 3 years, the capital gains thus made through SWP will be added to your income and taxed as per your income tax slab rate. If your holding is more than 3 years, capital gains would be long-term and attract a tax of 20% with indexation. 

However, such regular withdrawals are not subject to tax deduction at source (TDS) as is the case with fixed deposits.

SWP is an effective tool to generate cash flow. However, it should be financially planned keeping your goals in mind. Unplanned way of opting for an SWP may prove detrimental to your finances.

(The author is CEO, Bankbazaar.com)

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