How and When to use Mutual Fund Monthly Income Plans

Published: May 7, 2016 at 8:34 am

Last Updated on

Question: When can you use an investment portfolio that cannot exceed an equity allocation of about 25%? Value Research classifies them as Hybrid: Debt-oriented Conservative. There are about 43 funds in this category and more than half of them contain the phrase “monthly income plans” (MIP) in their names. Some are called regular savings funds (not to be confused equity savings funds). Some are called ‘regular income funds’.

I do not know the origins of the MIP funds. My guess is they were designed to be debt funds with a small dash of equity funds for that ‘extra return’. Probably called monthly income plan because the fund manager can attempt to book some profit (not too much) each month and pass it on as a dividend (after a hefty DDT tax is deducted) if the dividend option is chosen. So they probably wanted to sell these as an alternative to the monthly income plans from the post office and banks.

The misleading title ploy seems to have worked. Many want to choose these for ‘better returns’ without understanding the risks involved. Now, you might think there is only a max of 25% equity.

monthy-income-plans

These are the max and min returns of 22 MIP funds in the last 10 years. Notice the negative and near zero returns. A ‘2008’ is not necessary for these funds to offer -ve returns. Though the equity is only 25%, many of these funds dabble in long-term gilts, making the portfolio quite volatile.

Over 3,5 and 10Y, these funds have returned anywhere between 5% to 10%. These are not long-term periods where you can switch funds.

Many AMCs suggest minimum holding period of 1-3 years for these funds!!  If you want to choose these funds (I think  you don’t need them), I would recommend a holding period of at least 7  years. Do not expect anything great in terms of returns. They can vary a lot! In any case, always choose growth. Never dividends.

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For intermediate-term goals (5-10Y),  75-80% of ultra short-term debt fund or short-term gilt + 25-20% of an equity fund should work well.  The same portfolio will also work well for retirees who wish to allow part of their corpus to grow.

The main problem with these MIPs is the debt portfolio. It resembles a masala Khichdi. The current average portfolio ranges from 0.16 years to 13/14Y!! So any thing from a ultra short-term bond fund to long-term gilt fund can be an MIP!

That does not worry me so much. Many of these funds can invest in any kind of debt. While choosing a fund, I need to know where the fund will not invest. This defines risk. Since it is hard to do that with these MIPs, I would prefer to construct my own portfolio.

‘Hey, wait a minute. You like equity oriented balanced funds and have called them a low risk, high reward option. So why are you against debt oriented balanced funds?’

A portfolio with 65-70% equity = 100% equity. So for all pratical purposes equity oriendted balanced funds are equity funds with a good risk vs reward balance.

A portfolio with 20-25% equity  is not of much use for long-term goals (not beat inflation after tax) and can be quite dangerous for short-term goals. Plus the  Khichdi argument made above. They are quite capable of causing  monthly stress with or without monthly income. Stay away.

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Pattabiraman editor freefincalM. Pattabiraman(PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. since Aug 2006. Connect with him via Twitter or Linkedin Pattabiraman has co-authored two print-books, You can be rich too with goal-based investing (CNBC TV18) and Gamechanger and seven other free e-books on various topics of money management. He is a patron and co-founder of “Fee-only India” an organisation to promote unbiased, commission-free investment advice.
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6 Comments

  1. Hello Sir ,

    Good Day , Since you recommend Ultra Short Term Fund and Short Term Gilt Fund , You have done a write up on how to select Short Term Gilt Fund with low risk , Can you please do a similar write up on Ultra Short Term Fund on how to select a good UST Fund as even AAA fund carries risk as you have mentioned in one of your write up.

    Thank You
    Austin

    1. There is not much you can do with UST funds except probably choose funds that invest only in PSU and bank bonds.

  2. My Favorites (with dividend option)….
    if you are at 30% tax bracket, MIP’s generally outperform FD rates.. in terms of dividends, + you get LTCG offset on applying indexation
    and any value generated over and above dividends is your tax free income

    1. Dear Mukul, if you are not in need of income in between and can hold for 3+ year, the growth option ‘ll provide return.

      Thanks

      Ashal

  3. Thank You Sir for your reply.

    When investing in UST , Liquid Fund or Short Term Gilt for regular income or medium/long term ( 3- 10 years ) as you suggest , What is the best option to choose Growth or Divident Reinvestment.

    Some suggest that investing in Liquid fund Dividend Reinvestment is the best option from Tax POV , Can you please highlight which is the better way to go ? Thank You

    Austin

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