Table of Contents
Table of Contents
Many investors create an investment strategy for their retirement, diligently seeking avenues that offer attractive returns to secure their financial future after they stop working. While the focus is on building a retirement fund, the careful management of the accumulated corpus post-retirement is equally important. As retirees rely solely on this fund, spending or investing it requires careful consideration. This is where a Systematic Withdrawal Plan (SWP) comes into play.
Upon receiving retirement funds, an SWP facilitates strategic investing, allowing you to withdraw a predetermined amount regularly while minimising the impact on your corpus. Essentially, a Systematic Withdrawal Plan is the reverse of a Systematic Investment Plan (SIP). While SIP involves regular investments, SWP entails withdrawing a predefined sum at fixed intervals from your Mutual Fund investments.
What is a Systematic Withdrawal Plan?
Let’s start with understanding a systematic withdrawal plan. A Systematic Withdrawal Plan permits you to redeem your mutual fund investment in a phased manner, enabling gradual withdrawals instead of lump-sum ones. Unlike SIPs where you invest into a mutual fund, in an SWP, you withdraw investments from your mutual fund scheme to your savings account.
This approach empowers you to customise your cash flow according to your needs. You have the flexibility to withdraw only the capital gains or a fixed amount from your investment. This way, your money continues to be invested while providing you with a steady stream of income and returns. The withdrawn funds can be reinvested in other funds or retained as cash, based on your preference.
An Example
Now that you are aware of systematic withdrawal plan meaning, let’s understand SWP better with an example. After retiring, Akash possesses a total savings of Rs.10 lakh. To cover his fixed monthly expenses, he aims to withdraw Rs.30,000 every month. For the sake of simplicity, let’s assume he invests this amount in a SWP scheme that offers an annual return of 20%.
So, the total interest accrued in 1 year = (10,00,000 * 20)/100 = 2,00,000
However, Akash withdraws Rs. 30,000 each month, or Rs. 3,60,000 annually.
Hence, the excess amount withdrawn = Rs. 3,60,000 – Rs. 2,00,000 = Rs. 1,60,000
Portfolio balance = Rs. 2,000,000 – Rs. 1,60,000 = Rs. 40,000
Why Do I Require a Systematic Withdrawal Plan?
It’s well-known that fluctuations in the market can directly impact mutual fund investments, potentially leading to adverse effects on the fund’s Net Asset Value (NAV). Particularly when an individual is approaching a financial goal, failure to withdraw funds in a timely manner can erode fund returns.
Hence, a Systematic Withdrawal Plan allows you to align your withdrawals with your financial requirements. If your goal demands gradual funding, opting for an SWP ensures funds are available when needed. This mitigates the risk of goal delays due to market-related cash shortages.
Moreover, an SWP caters to investors seeking supplementary income alongside their regular earnings. This strategy enables you, as an investor, to generate a consistent income stream from your investments. For those desiring periodic earnings for travel or other expenses, this serves as an effective method to fulfil such needs.
Advantages of SWP
The following are the key advantages of systematic withdrawal plans.
1. Consistent Investment Discipline
SWP enforces regular redemption of mutual fund units each month to fulfil monthly expenses, irrespective of market conditions. This shields investors from making hasty and large withdrawals due to market fluctuations. It also safeguards against impulsive investments during market highs.
2. Benefit from Rupee-Cost Averaging
SWPs offer the advantage of rupee-cost averaging during withdrawals. This strategy provides investors with the average Net Asset Value (NAV) of a mutual fund over an extended period, reducing reliance on a single NAV point.
For instance, consider an investor who invested Rs. 1 lakh in a mutual fund in January 2019 at an NAV of Rs. 100. Another investor also invested the same amount but opted for a monthly SWP of Rs. 10,000 for 5 months. The rupee-cost averaging effect can be observed in the investment values over time.
3. Steady Fixed Income
SWP provides a consistent periodic amount, ensuring a stable income stream for retirees or individuals managing education expenses for their children.
4. Tax Efficiency
Withdrawals through SWP comprise both capital and income components. Tax is levied only on the income portion, not the capital.
For example, if an investor withdraws Rs. 1 lakh from a mutual fund with a growth of Rs. 10 lakh (10% growth), only 10% of the withdrawal (Rs. 10,000) is considered income, while the remaining (Rs. 90,000) is treated as capital withdrawal. In contrast, if the same investor had earned Rs. 1 lakh interest from a bank FD, the entire amount would be taxable as income.
Systematic Withdrawal Plan Drawbacks
Despite the numerous advantages of utilising an SWP, it’s important to acknowledge a few limitations:
1. Account Balance Reduction due to Fees: Certain retirement accounts impose withdrawal fees, leading to a reduction in the available withdrawal amount.
2. Possible Inadequate Coverage of Expenses: Since systematic withdrawals are tailored to extend throughout your lifespan, they depend on your life expectancy, potentially leaving you with insufficient funds to cover all expenses.
Tax Implications of Systematic Withdrawal Plans
Taxation applies to redemptions via SWP. In the context of debt funds, capital gains realised within a holding period of less than 36 months are added to your total income and taxed at your applicable income tax slab rate. For periods exceeding 36 months, the capital gains qualify as ‘long-term’ and are taxed at 20% post indexation.
For equity funds, gains from holdings of less than one year are taxed at 15%. Conversely, gains from periods exceeding one year are classified as long-term capital gains, subject to a 10% tax without indexation. An open-ended fund grants you the flexibility to redeem or modify your investment as needed. So, while investing in equity funds, take a look at some of the best ones that can cater to needs as time demands. Renowned firms like Share India facilitate investing in a wide range of funds. You can pick the ones that suit your requirements.
Conclusion
A systematic withdrawal plan (SWP) stands as a retirement savings strategy that enables you to systematically withdraw a predetermined sum from your account at regular intervals. This mitigates the risk of outliving your funds by ensuring methodical withdrawals. SWP also empowers you to tailor your account’s cash flow to suit your lifetime needs, allowing for larger withdrawals in early retirement and smaller ones later. While there are a few downsides to consider, the benefits of SWP generally outweigh them. If you seek a dependable method to maintain financial stability throughout your retirement, SWP might be the suitable choice for you.
