A few years back, I remember desperately needing an extra source of income. So, I chose to take up a few extra gigs on the side to meet this need. All was well for a while until the stress got too much for me and led to burnout. Clearly, this wasn’t working. So, I went online and looked up the different ways to earn some assured extra income. And I discovered a well-known but little-used secret — dividends on mutual funds.
Wait a minute. Most investors know that it’s possible to earn dividends from stocks. But do mutual funds pay dividends too? As I discovered to my delight, they do!
In the case of a company, the profits made by the entity can either be reinvested back into the company, or they can be distributed to the company’s shareholders. If a part of the company’s profits is paid out to shareholders, that portion is what we call dividends.
But how do mutual funds pay dividends? Well, the mutual fund scheme itself may make profits, and if it chooses to, it can distribute these profits to the investors in the form of dividends.
That said, not all mutual fund schemes pay out dividends to their investors. Some funds choose to reinvest the profits they make back into the scheme. Based on whether the mutual fund scheme’s profits are paid out or reinvested, we have two types of MFs, namely those with the growth option and those with the dividend option.
When you choose the growth option in a mutual fund, the profits that the fund makes are reinvested back in the scheme instead of being paid out to you. This effectively results in compounding, since you continue to earn returns on your returns.
For instance, let’s say you hold 10,000 units in a mutual fund scheme, and the scheme declares a profit of ₹2 per unit. In this case, your total share of the profits will be ₹20,000. This money will not be paid out to you in the growth option.
Instead, it will be reinvested into the scheme, and your holdings will increase accordingly, based on the NAV of the units. So, if the NAV is ₹5, your holdings will increase by 4,000 units. (₹20,000 ÷ ₹5). This effectively means your portfolio will grow from 10,000 units to 14,000 units.
In April 2021, the dividend option was renamed by the SEBI as Income Distribution cum Capital Withdrawal (IDCW). So, in case you choose the IDCW option, the dividends declared by the mutual fund house are paid out to you. Dividends on mutual funds are most commonly paid out annually.
However, there are also quarterly or monthly dividend mutual funds that pay out dividends more frequently. The dividend that is paid out is deducted from the current NAV of the fund. For example, if a mutual fund scheme has a NAV of ₹10 per unit, and declares a dividend at the rate of ₹3 per unit, the NAV will fall to ₹7 per unit.
If you want to set up a source of alternate income, or if you are looking for some additional cash flow, you need to invest in mutual funds with the dividend option or the IDCW option. This option can be found in different kinds of mutual funds such as equity funds, money market funds, low duration funds, liquid funds and even hybrid funds.
Here is a closer look at some of the recent mutual funds dividends in the Indian markets.
And here is a table showing you some of the upcoming dividends in mutual fund schemes in India, as on June 16, 2022.
The record date is the cut-off date for deciding which investors are eligible for the mutual fund declared. Only those investors who held mutual fund units up until the record date will be eligible for the dividend.
For instance, if the record date for a mutual fund scheme’s dividend payouts is June 30, 2022, and you purchase units in the fund on July 3, 2022, you will not be eligible for this round of dividends.
The dividend payout option aka the IDCW option is a choice you make when you invest in any mutual fund. It simply ensures that the mutual fund scheme pays out its profits to you as dividends, as and when they are declared. The dividend payout option is available for different kinds of mutual funds, irrespective of the kind of assets they invest in or their investment tenure.
Dividend yield mutual funds, on the other hand, are a specific type of equity mutual funds. They invest primarily in stocks that are known to declare high dividends, which are well above the market average. SEBI guidelines suggest that dividend yield funds should invest at least 65% of their assets in stocks that pay out dividends.
That said, like all mutual funds, dividend yield funds may also come with growth and IDCW options. And here too, you will receive regular payouts only if you choose the IDCW option.
The bottom line is that no matter what kind of mutual fund you invest in, you will only receive dividend payouts if you choose the Income Distribution cum Capital Withdrawal (IDCW) option. So, before you choose mutual funds for your investment portfolio, check whether the funds you have shortlisted offer this option.
Dividends in mutual funds may either be paid out to the mutual fund investor, or they may be reinvested in the scheme. In case the dividend is reinvested back into the scheme, your total holdings will increase accordingly.
For instance, say you currently hold 1,000 units in a mutual fund scheme. And the fund declares a dividend of ₹5 per unit. In the case of dividend payouts, you will receive ₹5,000 as dividend income. Alternatively, if the dividend is reinvested, and if the current NAV is ₹10, your holdings will increase by 500 units (₹5,000 ÷ ₹10). So, you will hold 1,500 units after the dividend reinvestment.
Yes, some mutual funds pay dividends to the unit-holders. When you invest in a mutual fund, you can choose between the growth option and the dividend option. In the dividend option, any profits made by the mutual fund scheme will be paid out to you at regular intervals.
Alternatively, you can also choose to invest in dividend yield mutual funds, which invest in equity stocks that offer high dividends in comparison to the market average. These dividends may not always be paid out to you. If you have chosen the growth option, the gains will be reinvested in the scheme.
Yes, dividend mutual funds can be an excellent investment option for you if you are looking for a source of regular additional income. The dividend payouts from your mutual fund investment may be made on a monthly, quarterly or annual basis.