Do not rely on MIPs for monthly income as they are not mandated to provide it. The exposure to equity adds certain level of risk. Understand it fully before you get into an MIP,says Ritu Kant Ojha. Monthly Income Plans (MIPs) are assumed to provide monthly payouts. A glance over last 3 years' dividend payouts of top 5 MIPs shows that they have maintained the regular payouts almost every month. To assume,however,that they are mandated to provide monthly payouts would be wrong as neither return nor capital is guaranteed when you invest in an MIP. A fund house decides whether or not to extend a payout depending on the distributable surplus it has. It aims to provide returns through investment in debt (75-100 per cent) as well as equity (25-0 per cent) and is considered a good option for risk averse investors. The MIPs predominantly invest in money market and debt instruments (government securities,certificate of deposits,commercial paper etc.) and have a small exposure to equity (10-25 per cent) to ensure higher returns. Before getting into an MIP it is better to understand the product. Performance The top five monthly income plans have registered huge growth on a year-on-year (YoY) basis in their assets under management (AuM). Dhruva Chatterji,senior research analyst with Morningstar,India owes it partly to higher commissions to agents (1 per cent compared to 0.50 per cent in equity schemes) and partly to the volatility in the equity markets. Due to higher commissions,mutual fund distributors are more inclined to sell an MIP as compared to an equity scheme. Post entry-load ban in 2009,the commissions on mutual fund schemes have come down significantly. On the other hand,high uncertainty of the equity market along with the volatility since the last 12-18 months has forced investors look at safer options. This clearly shows in the swelling of AuMs of the MIPs in past one year. For example,the AuM of UTI MIS Advantage - Dividend,has grown by more than 166 per cent to Rs 9,728 crore YoY as on May 31,2011. The risk factor MIPs carry two kinds of risks. One is movement in the interest rates when interest rates fall,the bond prices rise and hence the Net Asset Value (NAV) of an MIP rises. When interest rates rise,the bond prices fall and hence the NAV of an MIP falls. Then the second risk in a scenario when the NAV of a fund falls,fund managers usually look at increasing exposure to equity to sustain good returns which may lead to higher risk of capital erosion. These funds most closely resemble 'debt-oriented' balanced funds. They invest around 15-20 per cent of their corpus in equities and the remaining in fixed income instruments. This means unit holders are not only exposed to NAV-related risk,their primary objective of earning a monthly income too may not be met in the months where the fund suffers heavy mark-to-market losses. Given that fluctuations in the equity market are usually several times that in the debt market,a smaller proportion of equities may not necessarily serve as any measure of capital protection,says Jayant Pai,VP,Parag Parikh Financial Advisory Services. Why invest in MIP? A large number of people stay away from equity because of the inherent risk in it along with lack of patience for the long term which is a must to reap benefits from an equity investment. An instrument like MIP provides an opportunity for conservative investors to protect their capital along with some exposure to equity. The five year returns of some of the top MIPs has been over 12 per cent. But only few have given good returns among a large number of MIPs available in the market. The tax treatment of an MIP scheme is better than a fixed deposit (FD). This is because the dividend option of the MIP is tax free at the hands of investors,but the interest on FD is taxable. The growth option of an MIP,if redeemed after one year,is taxed as a Long Term Capital Gain (LTCG) which is 10 per cent with indexation,or 20 per cent without indexation,whichever is lower. If redeemed before the completion of one year,the net gain is added to the income and taxed according to the applicable tax slab. Experts feel that instruments such as monthly income plans are a good vehicle to introduce the debt investors into equity markets. Once they get a flavor of these funds they can move on to other equity oriented options such as regular balanced funds and diversified equity funds,adds Pai. Dependence on the MIP for monthly cash flows may be risky as there might be a situation when a fund house does not declare dividend for few months or is irregular in payouts,and that can adversely impact an investor's cash flow. MIP investors must have a long term horizon and spread their investments in other instruments to reduce risk. ritukant.ojha@expressindia.com
