Mutual Fund SWP Vs Fixed Deposit MIP: Choose Wisely! 

Many of us are investing in a type of Monthly Income Plan (MIP) within bank Fixed Deposits (FD) to secure a steady income during our working years and retirement.

Isn’t it appealing that this plan is designed to be both easy to invest in and simple to withdraw funds from? This convenience is what draws many investors toward it.

For someone who already receives a monthly salary, wouldn’t it be advantageous to start contributing to a Fixed Deposit without needing any documentation?

With just a bank account in place, one can easily begin investing. Plus, monthly interest is automatically credited to the bank account, isn’t that a hassle-free way to generate income?

Table of Contents:

• Bank Monthly Income Plan: Positive and Negative Aspects
• Post Office MIP: Positive and Negative Aspects
• SWP: How Does It Work?
• SWP vs Fixed Deposit MIP
• For ₹1 lakh of interest/profit, how much income tax?
• Choose Balanced Advantage Funds
• First In, First Out: The Smart Withdrawal Strategy!
• Maximize Returns, Minimize Taxes?
• Withdraw After One Year!
• SWP: Be Cautious!
• Partial Withdrawals Not Possible

Bank Monthly Income Plan: Positive and Negative Aspects

The interest generated by a bank’s Monthly Income Plan (MIP) is roughly equivalent to the inflation rate.”, which currently averages between 6% and 7%.

However, the interest rate for bank Fixed Deposits (FD) ranges from 6.5% to 7.5%. Isn’t it concerning that many predict this interest rate will decrease over time?

Additionally, senior citizens are offered an extra 0.5% interest under this scheme. How convenient is it that you can choose the investment duration based on how many years of monthly income you require?

However, it’s essential to consider the tax implications. Depending on the income tax slab an individual falls into, taxes must be paid on the interest income. For instance, let’s assume a Fixed Deposit yields 7% interest income of ₹1 lakh in a financial year.

If the individual falls into the 30% tax bracket, they would need to pay ₹30,000 in taxes (excluding the 4% cess for education and health). Doesn’t this make it challenging for many senior citizens relying solely on interest income to manage their expenses?

Post Office MIP: Positive and Negative Aspects

The Post Office Monthly Income Scheme (PO MIS) offers monthly interest payments, making it an attractive option for many senior citizens who wish to invest their retirement funds in this plan.

Currently, this scheme provides an annual interest rate of 7.4%. Isn’t it noteworthy that this income is only about 1% higher than the country’s average inflation rate?

Although the returns may be modest, one of the significant advantages is that there is no associated risk. For those seeking a reliable monthly income, isn’t this plan a suitable choice?

However, it’s a bit concerning that the interest rate for this scheme is subject to change every three months. Yet, when an individual invests in this plan, the interest rate established at the time of investment remains fixed for the entire five-year term.

Isn’t it reassuring to know that your investment won’t be affected by fluctuations in interest rates during that period?

Each individual can invest a maximum of ₹9 lakh in this scheme, while couples can jointly deposit up to ₹15 lakh. But isn’t it unfortunate that there are no income tax benefits for the invested amount or the interest earned?

The interest income from this scheme is considered part of an individual’s total income, which means they must pay taxes based on their applicable income tax slab.

However, isn’t it a relief that if an individual falls within the basic tax exemption limit, they won’t have to pay any tax at all?

Once you set up this arrangement, isn’t it convenient that a specified amount will automatically be credited to your bank account on the designated date?

Based on this setup, the mutual fund company will sell the necessary units to facilitate these withdrawals. Isn’t this a seamless way to ensure a regular income stream from your investments?

SWP vs Fixed Deposit MIP

Let’s explore how the Systematic Withdrawal Plan (SWP) is superior to the Fixed Deposit Monthly Income Plan (MIP).

A Fixed Deposit MIP offers monthly interest payouts on a lump sum invested in a fixed deposit with a bank, ensuring a regular income.

A Fixed Deposit is a debt market-based scheme. While the interest income is fixed, the post-tax returns are approximately 5%. With inflation rates hovering around 6-7%, isn’t it concerning that the real income becomes negative?

This situation makes it challenging for senior citizens to manage their expenses in light of rising costs.

Moreover, when interest income exceeds ₹50,000 in a financial year, a TDS of 10% is applicable. Isn’t it frustrating that one has to pay income tax on Fixed Deposit interest within the same financial year?

On the other hand, with mutual funds, using the SWP method allows investors to invest in equity mutual funds, hybrid mutual funds, and debt mutual funds based on their risk appetite.

Isn’t it an advantage that they can withdraw their money after a long-term investment, potentially enjoying higher returns over time?

Historically, SWP investments in equity mutual funds have the potential for higher returns than Fixed Deposits, especially when considering inflation.

For ₹1 lakh of interest/profit, how much income tax?

Investment Type	Annual Income	Tax Rate	Risk
Bank Monthly Income Scheme	₹530,000	Tax based on income bracket.	Low
Post Office Monthly Income Scheme	₹530,000	Tax based on income bracket.	Low
Debt Market Mutual Fund	₹52,100	Tax based on income bracket.	Low
Equity Mutual Fund (Short-Term)	₹2,000	20% (short-term capital gains tax)	High
Equity Mutual Fund (Long-Term)	₹12,000	No tax up to ₹1,25,000; 10% tax above that.	High

The tax rate is assumed to be 30% for the calculation of interest income from fixed deposits, and that the sale of ₹1 lakh worth of units in debt and equity funds is also considered.

Choose Balanced Advantage Funds

Hybrid funds, particularly Balanced Advantage Funds, are particularly suitable for the Systematic Withdrawal Plan (SWP).

Since the money pooled from investors is invested in a mix of equity shares and debt securities, isn’t it reassuring that the associated risk is lower?

Additionally, in Balanced Advantage Funds, the proportion of equities is adjusted based on market performance, and having a dedicated fund manager to monitor the fund’s performance further mitigates risk while potentially increasing returns.

As of September 20, 2024, the average return in the Balanced Advantage Fund category is 14.15%. Isn’t it impressive that during this period, the top 5 funds have generated returns ranging from 16.5% to 22%?

First In, First Out: The Smart Withdrawal Strategy!

When selling units to withdraw money through the Systematic Withdrawal Plan (SWP), the process operates on the principle of “First In First Out” (FIFO).

This means that when you sell units after investing through a Systematic Investment Plan (SIP) and subsequently withdraw funds via SWP, the units that were invested first will be sold first.

Isn’t it advantageous that this approach allows for the calculation of long-term capital gains?

This structure enables you to benefit from lower income tax rates. In some cases, it’s even possible to avoid paying taxes altogether.

Currently, in many Balanced Advantage Funds, over 65% of the investment is allocated to Indian corporate equities, which subjects them to the income tax regulations applicable to equity funds.

This means that when you sell units after holding them for over a year, there’s no income tax on long-term capital gains up to ₹1.25 lakh within the financial year. For gains exceeding this limit, a tax of just 10% applies.

When compared to the fixed deposit interest income example we discussed earlier, there’s no tax liability here. Additionally, TDS (Tax Deducted at Source) will not be applicable. You only need to pay income tax when you sell the units and convert them into cash.

However, when withdrawing funds through SWP from debt funds, regardless of the investment duration, the investor must pay income tax according to their applicable tax bracket on any capital gains.

Isn’t it crucial to consider these tax implications when choosing your investment strategy?

Maximize Returns, Minimize Taxes?

When selling units worth ₹1 lakh in a debt fund that yields 7% income, the capital gain amounts to ₹7,000. If the investor falls into the 30% tax bracket, paying just ₹2,100 as income tax suffices.

In contrast, with a fixed deposit, the tax liability could reach ₹30,000. Thus, withdrawing money from debt funds through the SWP method results in significantly lower tax payments.

Given that equity funds can yield returns of 12% to 13% over the long term, hybrid funds offer 9% to 10%, and debt funds provide 7% to 8%, it’s evident that one can achieve additional income beyond the inflation rate while incurring minimal tax obligations.

For those considering the SWP method in mutual fund schemes, you can create your investment corpus by regularly investing through an SIP for the long term or by making a lump-sum investment.

Withdraw After One Year!

It is advisable to withdraw funds using the Systematic Withdrawal Plan (SWP) at least one year after investing in an equity mutual fund. If you withdraw before this period, you will incur an exit load fee of 0.5% to 1% across all types of funds.

In the case of equity funds, if you sell your units before the one-year mark, you will be subject to a short-term capital gains tax of 20%, which will reduce your overall profit.

Therefore, it is crucial to plan ahead. If needed, seeking assistance from a mutual fund distributor (MFD) or a financial advisor can be beneficial.

SWP: Be Cautious!

In a fixed deposit, the principal amount remains intact, and the interest income is stable. But what if the income from a mutual fund’s Systematic Withdrawal Plan (SWP) is less than the amount you withdraw each month?

Could that lead to a reduction in your principal? It’s wise to consider this: after investing for several years, are you ensuring that the amount you withdraw is slightly lower than the expected potential income?

While mutual funds generally offer higher returns compared to fixed deposits and result in lower tax liabilities, isn’t it crucial to evaluate the long-term benefits? Isn’t the ultimate goal to have a more substantial total accumulation?

Partial Withdrawals Not Possible

If you earn an annual return of 8% through mutual funds, isn’t it sensible to only withdraw 6% for your expenses? This way, your principal can continue to grow in the following years. Shouldn’t you also consider adjusting your withdrawals in the SWP to account for inflation in the coming years?

Since there is market risk associated with mutual funds, why not diversify your investments across various types of funds? By allocating your funds into debt funds, hybrid funds, and equity funds, can you effectively reduce your overall risk? Furthermore, with mutual funds, you have the flexibility to withdraw either partial or total amounts as needed.

Doesn’t the SWP cater to investors who have varying risk appetites from conservative to moderate to aggressive?

In contrast, fixed deposits offer limited flexibility for withdrawals, and one must invest a significant amount. If you need money before maturity, aren’t you faced with penalties? Wouldn’t it be wise to consider breaking fixed deposits to minimize those penalties?

For those who prefer to avoid risk, aren’t fixed deposits a better fit? Yet, isn’t it worth contemplating that if you’re willing to take a moderate risk in the long term, the SWP of mutual funds could be far more beneficial?