Growth Option vs IDCW - Which one to Choose while investing in mutual funds?
Have you ever wondered about the IDCW option and Growth option while picking mutual funds? If so, don’t think you are alone. Often investors especially novice mutual fund investors get confused about these two options. If mutual fund plans have to be categorised broadly, then these are the two options and this article will discuss both options in detail so that the next time you pick a mutual fund for investment, you know which one to choose for your investment portfolio.
What is the Growth option?
The Growth option in mutual funds refers to the reinvestment of profits made by the fund. A mutual fund invests in different securities to generate returns. When the returns are positive, the profit is reinvested under this Growth option which makes the NAV of the mutual fund grow further thus it is referred to as a Growth option in mutual funds. The profits can include dividends, interest on bonds and of course the increase in the securities price from the value at which the investment was made.
What is the IDCW option?
The IDCW option stands for Income Distribution Cum Withdrawal Plan under which the profits made by the mutual fund are distributed to the mutual fund investors periodically. As per SEBI, the profits made by the mutual fund have to be used for paying dividends to the mutual fund holders as per specified intervals. The payments are made usually on a monthly, quarterly, annual or daily basis depending on the interval mentioned in the mutual fund documents.
Earlier IDCW plans used to be known as the Dividend option. However, due to the concept of dividends in the stock market, investors used to get confused and many misconceptions were there about the dividend option. So, SEBI changed the name of the dividend option to IDCW option which categorically indicates that if an investor is opting for it, he or she will be withdrawing capital invested by them.
As mentioned above the profits of a mutual fund comes from capital appreciation as well as dividends and interest received on the underlying securities. In mutual funds, all these increase the NAV, and any withdrawal will cause the NAV to drop. So, if you were thinking that opting for the IDCW plan means getting regular income without affecting your investment valuation, then that’s a misconception.
How are these two different from each other?
The name itself of these two plans depicts the differences between them, one is about growth while another is about income and withdrawal. The basic difference is about the reinvestment of profits made by the mutual fund. While the Growth plan reinvests the profits made by the fund, on the other hand, IDCW distributes the profit at regular intervals to its investors.
Coming to the NAV, it is higher in the case of the Growth plan as the profits are reinvested, and due to the power of compounding. Alternatively, the NAV of the IDCW plan drops after every payout of the dividends. Here dividends mean the profit made by the fund.
If you look at the total returns generated by the fund under both these plans, then under IDCW, the total return will be lower due to the loss of compounding effect. The profits are distributed and the NAV falls and compounding takes place on this NAV while under the Growth option, compounding takes place on the higher NAV. Thus the total return in the case of the Growth option is always higher compared to the IDCW option.
Illustration
IDCW Plan |
Growth Pan |
|
NAV of a mutual fund on 1st April 2022 |
INR 50 |
INR 50 |
Investment amount |
INR 50,000 |
INR 50,000 |
Units Allotted |
1,000 |
1,000 |
NAV of a mutual fund on 31st March 2023 |
INR 60 |
INR 60 |
Dividend Declared |
INR 10 |
– |
Dividend Received |
INR 10,000 (1,000*10) |
– |
Post Dividend NAV |
INR 50 (60-10) |
INR 60 |
Units Issued Against Dividends |
200 (10,000/50) |
– |
Total Number of Units Held |
800 (1,000-200) |
– |
NAV |
INR 50 |
INR 60 |
Value of the Investment |
INR 40,000 |
INR 60,000 |
As you can see in the above example, In the IDCW plan, the value of the investment is lower than the Growth plan due to the distribution of the profits. Now the NAV of the fund under the IDCW plan will fall to the extent of the dividend declared and paid.
Which one to choose for your investment portfolio?
Mutual funds are usually taken up for long-term investment where you want to see your capital appreciate and after a specific tenure, you want to use the accumulated corpus. For this investment objective growth plan is suitable as it helps your investment to grow over the long term.
However, if you are looking for regular income from your mutual fund investment, then you can opt for the IDCW plan where you will the profits made by the fund from time to time.
However, you also need to consider the tax effect of these two plans. While profits made under the Growth option are taxable as per the long-term or short-term capital gain taxes according to the tenure of investment and the type of fund, the profits distributed under the IDCW plan are taxable at the hands of the investor as per the tax slab the investor falls into.
Can you switch from the IDCW option to Growth Option or vice versa?
You can switch from the IDCW plan to the growth plan or vice versa but it will be considered as redemption from one plan and purchase of the other. So, exit load will be levied if any as well as tax implications will be there. So, before switching from one plan to another, make sure, you evaluate the overall benefit of the same.
Conclusion
Mutual funds are becoming the most loved investment instruments especially with the help of digitalization and due to the growth prospects of the country as well as increasing financial literacy rate. However, making the right choice of funds is the primary thing to keep in mind for making your investment work for you and not against you. So, before picking your next investment, evaluate, whether you need a Growth plan or an IDCW plan.