Soham - a 35-year-old individual, chose to invest in a mutual fund scheme under the income distribution Cum Capital Withdrawal (IDCW) option. He wanted to invest in mutual funds to achieve financial freedom by 50. He also believed that the investments would become a source of regular payouts. However, contrary to his beliefs, no dividends were received regularly as expected.
If you now find yourself standing in the same position as Soham, believing that Income Distribution Cum Capital Withdrawal (IDCW) option in mutual funds works the same as dividends from shares of companies, this blog post is meant for you.
Income Distribution Cum Capital Withdrawal (IDCW) option: Definition, Working, and More
Most mutual fund schemes allow investors to invest via either growth or Income Distribution Cum Capital Withdrawal (IDCW) option. In both these cases, the underlying portfolio stays the same. However, the difference lies in how the returns from the scheme are used.
With Income Distribution Cum Capital Withdrawal (IDCW) option, you can receive returns at regular intervals from your investments. For example, if you own 1,000 units of a mutual fund scheme and the fund declares a dividend of Rs. 2 per unit, you will receive Rs. 2,000 as a dividend.
On the other hand, growth option of mutual funds reinvests the returns made by the scheme, thereby not allowing you to receive any payout at regular intervals. The benefit, in this case, will be in the form of compounding of reinvested returns over a specific period.
As you can see here, many investors feel confused about the similarities between dividends from mutual funds and companies.
SEBI’s Take on Income Distribution Cum Capital Withdrawal (IDCW) option Meaning
As per SEBI’s regulation, the nomenclature of the dividend plan was changed starting from Apr 2021. SEBI changed the term ‘Dividend option’ related to mutual fund investments to IDCW. If you have invested in any mutual fund under the dividend option, IDCW is mentioned in the Statement of Account (SOA) received by the AMC.
This stance around the dividend plan’s nomenclature might come from misconceptions about dividend option. Many investors misunderstand dividends as a bonus over and above the returns delivered by their schemes which are quite misleading. You can better understand it with an example -
As in the example above, getting a dividend of Rs. 2000 can also mean the amount will be reduced from your mutual fund investments. On the day the dividend is paid out, the corresponding NAV of each unit will drop by Rs. 2.
Here, dividends from mutual fund schemes simply mean taking a part of your investments back. This is what the full form of IDCW reflects.
Common Misconceptions around Income Distribution Cum Capital Withdrawal (IDCW) option in India
1. Income Distribution Cum Capital Withdrawal (IDCW) from mutual funds is extra income over and above the capital appreciation.
The truth behind this common misconception is that mutual fund funds (IDCW) are just capital appreciation, not over and above the same. You will receive it from your own capital.
2.income distribution cum capital withdrawal (IDCW) options of mutual funds are not good for all.
Selecting growth or income distribution cum capital withdrawal (IDCW) mutual fund options depends on your risk appetite, goals, and income. It is up to you to decide whether these options are suitable for you or not after careful analysis.
Dividends from Companies Vs. IDCW from Mutual Funds
Although IDCW declared by mutual fund schemes may seem similar to the ones declared by the companies, there are several differences between the two. These include the following:
● Dividends received from companies are a part of the Profit After Tax or PAT. Generally, companies declare dividends after retaining a portion of the profit in the reserves and surplus account. It is up to the company’s management to decide the proportion to which profits are divided for reserves and dividends.
● Mutual funds can only pay dividends from the accumulated profits. The AMC decides the IDCW payout rate for every unit held by the investors.
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Mutual Fund Investments are subject to market risks, read all the scheme related documents carefully.