Mutual fund systematic strategies: Systematic Transfer Plan and Systematic Withdrawal Plan
Mutual funds provide investors with various systematic strategies such as SIP, STP, SWP, etc. This article will discuss STP, which involves transferring money from one mutual fund scheme to another, and SWP, which involves redeeming mutual fund units from a scheme and transferring the money to a bank account.
Mutual funds provide investors with various systematic strategies such as Systematic Investment Plan, Systematic Transfer Plan, Systematic Withdrawal Plan, etc. Systematic Investment Plan (SIP) is discussed very commonly. SIP allows investors to invest in mutual funds in small monthly increments over time. This lessens the investor's financial burden while also benefiting from compounding and rupee cost averaging. STP is similar to SIP in that it invests in a fund scheme in instalments, but the instalment money is not withdrawn from the bank as it is in SIP, but rather from the prior fund plan. On the other hand, SWP differs from SIP in that it allows you to withdraw your invested funds and the returns produced over time through short periodic withdrawals. When you withdraw money, you redeem particular units, and the number of units steadily decreases until it reaches zero, indicating that you have withdrawn the entire amount. Refer to this article to know more details about how SIP works. In this article, we will discuss the other two mutual fund systematic strategies: STP and SWP.
What is STP?
The Systematic Transfer Plan (STP) is the process of investing a lump sum amount in one mutual fund scheme (usually debt fund), and from there, transferring some amount regularly to another mutual fund scheme (usually equity fund). Investors choose relatively less risky funds like a money market fund, liquid fund, arbitrage fund, etc., to invest their lumpsum money. Using STP, this money is transferred to relatively high-risk funds like a diversified equity fund, thematic fund, sectoral fund, international equity fund, etc.
STP strategy helps to avoid market timing. For Systematic Transfer Plan to work, both the source fund from where the transfer happens and the destination fund to which the transfer happens should belong to the same mutual fund house.
For example, Ramesh has received an annual bonus of Rs. 1 lakh from his employer. Ramesh can invest this lump sum amount in a liquid fund. Using the STP option, he can instruct the AMC to transfer Rs. 8,000 per month into an equity scheme of his choice from the liquid fund. So, STP involves the gradual transfer of money from one fund to another fund. STP is a risk mitigation strategy.
How to make the best use of the STP option?
An investor can choose to transfer a fixed or variable amount from one scheme to another using the STP option.
Capital protection to wealth creation: Most investors deposit a lump sum amount in a capital protection fund. Using the STP option, they make regular transfers to a wealth creation fund.
- Wading through high valuations and volatility: STP strategy is helpful when stock markets are trading at higher than average valuations or are experiencing high volatility. During such times, it makes sense to use the STP strategy to invest regular amounts over a period of time to benefit from Rupee Cost Averaging (RCA).
In the above scenario, an individual gets a bonus of Rs. 1,30,000 once in every five years. He invests this bonus in a debt fund where the expected rate of return is 6% p.a. He starts an STP, wherein every month Rs. 2,500 is transferred from the debt fund to an equity fund. At the end of 5 years, the entire Rs. 1,50,000 (Rs. 1,30,000 + return of 6% p.a.) gets invested in the equity fund. The same process is repeated once every five years for the next 25 years.
The expected rate of return on the equity fund is 10% CAGR. The individual invests a total of Rs. 7,50,000. After considering the expected 10% CAGR, the amount accumulated in his equity fund is Rs. 33,44,725.
Types of STP
There are primarily two types of STP.
Fixed STP: In this case, a fixed amount is transferred from one fund to another using the STP option. Ramesh's example that we saw above is a fixed STP.
- Capital appreciation STP: In this case, the return earned (capital appreciation) on the first fund is transferred to the second fund using the STP option. Capital appreciation STP is used by investors with a low-risk profile who want to protect their capital.
Tax implications of STP
Using the STP option, when the funds are transferred from one fund to another, there will be income tax implications based on the fund from where the funds are transferred. Check this article to know about mutual funds taxation..
- If the source fund is a debt fund, then the debt fund taxation rules will apply depending on the investment period (less than or greater than three years) completed at the time of transfer.
- If the source fund is an equity fund, then the equity fund taxation rules will apply depending on the investment period (less than or greater than one year) completed at the time of transfer.
STP to SWP
As an investor, you can use the STP strategy during the accumulation stage to create wealth for your financial goal, like retirement planning. Once you have created your retirement corpus, you can transfer the money from an equity fund to a capital protection fund. You can then use the Systematic Withdrawal Plan (SWP) strategy to transfer a specified amount from the capital protection fund to your bank account for your regular monthly expenses.
What is SWP?
The Systematic Withdrawal Plan (SWP) is the process of withdrawing money regularly from a mutual fund scheme. The money is withdrawn by redeeming the units of the mutual fund scheme. With every subsequent withdrawal, the number of scheme units will go on reducing. The withdrawal frequency can be monthly, quarterly, half-yearly, or yearly, depending on the investor’s requirement. Technically, SWP is the reverse of SIP.
How to use the SWP option?
For example, Ramesh has accumulated a retirement corpus of Rs. 4 crores in an equity fund. He has transferred the retirement corpus to a debt fund with the lowest risk. He has started an SWP to withdraw Rs. 50,000 per month from the debt fund to his bank account for his regular monthly expenses. Ramesh can increase the withdrawal amount every year after taking inflation into account.
The concept of SWP can be applied to an equity, debt, or hybrid fund. When applied to an equity fund, the concept of Rupee Cost Averaging (RCA) comes into effect. When the NAV has gone up, a lower number of units will be required to be redeemed to withdraw the specified amount.
Types of SWP
There are primarily two types of SWP.
- Fixed SWP: In this case, a fixed amount is redeemed from the mutual fund scheme and transferred to the bank account using the STP option. Ramesh’s example that we saw above is a fixed SWP.
- Capital appreciation SWP: In this case, the return earned (capital appreciation) on the fund balance is redeemed and transferred to the bank account fund using the Systematic Withdrawal Plan option. Capital appreciation SWP is used by investors who want to keep their capital and just redeem the gains.
The SWP option is good for retired people who want to withdraw a fixed amount every month from their retirement corpus.
Tax implications of SWP
Using the SWP option, when the funds are withdrawn, income tax implications will be based on the fund from which the funds are redeemed.
- If the fund from which the redemption is made is a debt fund, then the debt fund taxation rules will apply depending on the investment period (less than or greater than three years) completed at the time of redemption.
- If the fund from which the redemption is made is an equity fund, then the equity fund taxation rules will apply depending on the investment period (less than or greater than one year) completed at the time of redemption.
Meaning Of SWP In Mutual Funds
Bank fixed deposits or postal deposits are apparent for many investors seeking consistent cash flow from their holdings. However, investors are concerned about their future income requirements due to dropping interest rates on these schemes. A mutual fund called an SWP has a remedy for this. What does SWP mean in a mutual fund? SWP, or systematic withdrawal plan, is a mutual fund investment plan that allows investors to withdraw predefined amounts at regular intervals from any mutual fund scheme they have invested, such as monthly, quarterly, or yearly.
The investors can withdraw money on any day of the month, quarter, or year, and the AMC will credit their bank account. SWP Plan provides cash flow by redeeming mutual fund scheme units regularly. SWP investors can keep investing as long as there are still units available in the programme.
Comparative Analysis Of SIP, STP And SWP
Do you have any doubts regarding which one to use? SIP, STP, and SWP are all methods for investing in and withdrawing from mutual funds systematic and strategic. Individuals can select any of the options that best suit their needs.
SIP stands for systematic investment in mutual funds, whereas STP stands for systematic transfer of funds from one mutual fund plan. Finally, SWP refers to the withdrawal of money or redemption of Mutual Fund units systematically. The first two words refer to investment, and the third refers to withdrawal.
When it comes to SIPs, each is treated as a separate investment to calculate the tax on profits when the plan is redeemed. Investment profits are taxed since each transfer in STP is treated as a redemption. As a result, individual contributions to the SWP plan result in taxable gains.
SIP investments are ideal for investors who want to save and invest regularly. This may aid long-term capital appreciation. When an investor's risk-return characteristics and financial goals necessitate a scheme change, STP plans are appropriate. SWP plans are excellent for meeting the regular income needs of individuals, such as senior citizens. SWP plans can also be used to support recurring expenses such as EMIs, school/college tuition for children, and other similar expenses, providing for significant returns while making regular payments.
SIP is more of an investment than STP or SWP, both transfers and withdrawals.
SIPs are pre-determined investments that are made on a regular or fixed basis. An STP is a set amount that is regularly moved from one mutual fund to another. Finally, an SWP is a collection of withdrawals from a scheme regularly made and for a defined amount of time.
Benefits Of SIP
- A SIP encourages discipline since a set amount is deducted from your account each month. Then, it's put into the mutual fund of your choice. The investment takes place automatically when the required quantity of money is available in your bank account on the withdrawal date.
- SIPs give you peace of mind because they take care of your market timing and volatility.
Benefits Of SWP
- A person's money can be redeemed regularly, depending on their liquidity needs.
- As a result, one's bank account may have a constant monthly income.
Benefits Of STP
- STPs are beneficial because they allow investors to get the most bang for their dollars in a volatile stock market.
- STPs maximise the power of compounding through tactical asset allocation and rebalancing. This also aids in financial planning, as rupee cost averaging lowers the risk in your portfolio.
Retirement planning with SIP, STP, and SWP
As an investor, you can use the three strategies of SIP, STP, and SWP for your retirement planning.
Systematic Investment Plan (SIP)
You can use the SIP option to invest regularly in an equity mutual fund scheme for the long term to build your retirement corpus. Start early so that you can accumulate your retirement corpus with a lower monthly investment. As your income grows, you can increase the SIP amount every year. SIP gives you the benefit of Rupee Cost Averaging.
Systematic Transfer Plan (STP)
You can stop your SIP and start transferring money from the equity fund to a debt fund using the STP option when you start nearing retirement. For example, when you are three years away from your retirement, you can plan the STP so that the entire amount gets transferred from the equity fund to a debt fund through monthly transfers.
Systematic Withdrawal Plan (SWP)
Finally, when your retirement has started, you can use the SWP option to withdraw a specific amount from the debt fund every month by redeeming the scheme units. The amount can be credited to your bank account, which you can use further for your regular monthly expenses. The balance amount stays invested in the debt fund and earns returns.
The above scenario summarises how you can effectively use SIP, STP, and SWP for your retirement planning.
The Bottom Line
SIP, STP, and SWP are systematic and strategic ways to invest in and withdraw from mutual funds that provide you with various benefits. You can simply comprehend the differences between STP and SWP, SIP and SWP, and more and determine the best fit for your financial objectives.
Goal planning with Glide Invest App
You can partner with the Glide Invest App for your various financial goals like child’s education planning, child's marriage planning, retirement planning, etc. While planning for your financial goals, you can effectively use the SIP, STP, and SWP options. When you partner with the Glide Invest App for your financial goals, you will get advice on planning and systematically investing towards your financial goals..
With Glide Invest, you will get guidance for:
- A personalised risk profile assessment
- Identifying your financial goals
- Appropriate asset allocation
- Making a financial plan for each goal
- Automating the financial plan
- Review and analysis of your financial plan
- Hand holding you till your financial goals are achieved
Q1: Is STP a combination of SIP and SWP?
A1: Systematic investment plans (SIPs), systematic transfer plans (STPs), and systematic withdrawal plans (SWPs) are three different types of systematic investing and withdrawal plans.
SIP vs STP: which is better?
Q2: SIP vs STP: which is better?
A2: SIPs are better suited to investors who have a lump sum of money to invest. To preserve investment discipline, such investors can invest a small sum on a monthly basis. Investors who are hesitant to put their entire portfolio in a single equity programme, on the other hand, may select the STP alternative.
Q3: Is it possible to stop SWP at any time?
A3: In an SWP plan, the investor has the freedom to select the amount, frequency, and date that best suits his or her needs. Furthermore, the investor has the option to terminate the SWP at any time, make additional investments, or withdraw funds in excess of the predetermined SWP withdrawals.
Q4: Is it possible to invest a lump sum in an existing SIP?A4: Yes, you absolutely can. You can invest in mutual fund schemes in whatever way you want through mutual fund houses. So, if you have an ongoing SIP with a mutual fund institution in, say, scheme A, you can surely invest more money as a lump sum in the same scheme.