sip & mutual fund

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November 09, 2005

What's a mutual fund SIP?

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What type of a mutual fund is a SIP?"

I was taken aback by this question before I realised the person posing it thought a SIP was a type of 

mutual fund.

Unfortunately, many new investors seem to be under this misconception.

 A Systematic Investment Plan is not a type of mutual fund. It is a method of investing in a mutual fund

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Here's to coming to terms with it.

y  The best funds to invest in  

How you can invest in a mutual fund  

There are two ways in which you can invest in a mutual fund.

1. A one-time outright payment

If you invest directly in the fund, you just hand over the cheque and you get your fund units depending

on the value of the units on that particular day.

Let's say you want to invest Rs 10,000. All you have to do is approach the fund and buy units worth

Rs 10,000. There will be two factors determining how many units you get.

Entry load

This is the fee you pay on the amount you invest. Let's say the entry load is 2%. Two percent on Rs

10,000* would Rs 200. Now, you have just Rs 9,800 to invest.

NAV

The Net Asset Value is the price of a unit of a fund. Let's say that the NAV on the day you invest is Rs

30.

So you will get 326.67 units (Rs 9800 / 30).

2. Periodic investments

This is referred to as a SIP.

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That means that, every month, you commit to investing, say, Rs 1,000 in your fund. At the end of a

year, you would have invested Rs 12,000 in your fund.

Let's say the NAV on the day you invest in the first month is Rs 20; you will get 50 units.

The next month, the NAV is Rs 25. You will get 40 units.

The following month, the NAV is Rs 18. You will get 55.56 units.

So, after three months, you would have 145.56 units. On an average, you would have paid around Rs

21 per unit. This is because, when the NAV is high, you get fewer units per Rs 1,000. When the NAV

falls, you get more units per Rs 1,000.

y  How to invest in a mutual fund 

Here are some FAQs on the SIP  

1. Is there a load? 

 An exit load is a fee you pay the fund when you sell the units, just like the entry load is a fee you pay

when you buy the units.

Initially, funds never charged an entry load on SIPs. Now, however, a number of them do.

You will also have the check if there is an exit load. Generally, though, there is none. Also, if there is

an entry load, an exit load will not be charged.

  An exit load may be charged if you stop the SIP mid-way. Let's say you have a one-year SIP but

discontinue after five months, then an exit load will be levied. These conditions will wary between

mutual funds.

2. What is the minimum investment? 

If you do a one time investment, the minimum amount that you have to invest is Rs 5,000.

If you invest via an SIP, the amount drops. Each fund has their own minimum amount. Some may

keep it at least Rs 500 per month, others may keep it as Rs 1,000.

y  Cool funds for a hot market 

3. How often does one have to invest?  

It would depend on the fund.

Some insist the SIP must be done every month. Others give you the option of investing once in three

months or once in six months.

They also give fixed dates. So you will get the option of various dates and you will have to choose

one. Let's say you are presented with these dates: 1, 10, 20 or 30. You can pick any one date.

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If you pick the 10th of the month, then on that day, the amount you have decided to invest in the fund

has to be credited to your mutual fund.

4. How must the payment be made? 

You can opt for the Electronic Clearance Service from your bank; this means the mutual fund will, as

per your instructions, debit a certain amount from your account every month.

Let's say you have a SIP of Rs 1,000 every month and you have chosen toinvest in it on the 10th of 

every month. Under this option, you can instruct your mutual fund to directly debit your bank account

of Rs 1,000 on the due date.

If you don't have the required money in your account, then for that month, no units will be allocated to

you. But, if this continues periodically, the mutual fund will discontinue the SIP. You need to check

with each mutual fund what their parameters are.

 Alternately, you can give cheques to your mutual fund. In this case, they may ask for five Post Dated

Cheques upfront with your first investment.

Since these cheques are dated ahead of time, they cannot be processed till the date indicated.

y  The importance of choosing the right funds 

5. Must I state for how long I want the SIP?  

Yes. You will have to state whether you want it for a year or two years, etc. If, during the course of this

period, you realise you cannot continue with the SIP, all you have to do is inform the fund 15 days

prior to the payout.

The SIP will be discontinued. You can continue to keep your money with the fund and withdraw it

when you want.

6. Do all funds offer SIP?  

No. Liquid funds, cash funds and floating rate debt funds do not offer an SIP. These are funds that

invest in very short-term fixed-return investments. Floating rate debt funds invest in fixed return

investments where the interest rate moves in tandem with interest rates in the economy (just like a

floating rate home loan).

 All types of equity funds (funds that invest in the shares of companies), debt funds (funds that invest

in fixed-return investments) and balanced funds (funds that invest in both) offer a SIP.

7. Tax implications 

Let's say you have invested in the SIP option of a diversified equity fund.

If you sell the units after a year of buying, you pay no capital gains tax. If you sell if before a year, you

pay capital gains tax of 10%.

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Let's say you invest through a SIP for 12 months: January to December 2005. Now, in February 2006,

you want to sell some units.

Will you be charged capital gains tax?

The system of first-in, first-out applies here. So, the amount you invest in January 2005 and the units

you bought with that money, will be regarded as the units you sell in February 2006.

For tax purposes, the units that you sell first will be considered as the first units bought.

y  Most volatile mutual funds  

8. How will an SIP help?  

When you buy the units of a fund, you may do so when the NAV is really high. For instance, let's say

you bought the units of a fund when the bull run was at its peak, leading to a high NAV.

If the market dips after that, the value of your investments falls and you may have to wait for a long

while to make a return on your investment. But, if you invest via a SIP, you do not commit the error of 

buying units when the market is at its peak. Since you are buying small amounts continuously, your 

investment will average out over a period of time.

You will end up buying some units at a high cost and some units a lower price. Over time, your 

chances of making a profit are much higher when compared to an one-time investment.

* This figure was originally published as Rs 1,00,000 and the error was pointed out by a reader on the

Message Board.

Rachna C

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