For people like Dhiraj, who may be looking for a regular source of income and want to depend on financial instruments for their financial needs, earlier their options were limited to Bank Fixed Deposits (FD), Post Office Monthly Income Schemes (POMIS), National Pension Scheme (NPS), and other Small Saving Schemes (SSS).

These days many brokers/agents recommend mutual funds as an alternate option for regular income. The rationale is that traditional financial instruments cannot deliver inflation-beating results.

But is it prudent to depend on mutual funds to get you regular income?

Regular savings fund and Dividend yield fund are the two funds that brokers/agents recommend for people who want to earn  a regular income.

In this article we will look at each of these funds in detail...

Regular Savings Funds

Regular savings fund (erstwhile monthly income plan) also known as conservative hybrid/debt hybrid fund, invest 75-90% of the total assets in debt instruments and 10-25% of total assets in equity instruments. The schemes aim to generate regular income by investing primarily in debt and money market instruments and capital appreciation through equity component.

The schemes are commonly sold by agents/brokers as an alternative to fixed income bearing products like bank fixed deposits, public provident fund, and small saving schemes. Be aware that these schemes cannot guarantee regular income because neither debt nor equity instruments can guarantee fixed income.

As the markets are prone to volatility it may subject you to capital loss. This will be a dreadful situation if you are looking for capital protection and dependent on such schemes for regular income.

[Read: Equity Savings Fund Vs Regular Savings Fund, Which Is A Better Option For You?]

Dividend Yield Funds

Dividend yield simply means the returns earned by way of dividend. Dividend yield schemes invest in stocks of the companies which give good dividend. The selected companies are stable or low growth companies with huge cash surplus. It is crucial that the companies selected should be able to sustain dividend payouts in the future as well.

However, these companies may not have enough growth potential and hence capital appreciation of the scheme will be limited, though it may perform well when the markets are turbulent. When selecting the scheme, it is important to know where the fund will invest in the absence of attractive dividend yield opportunities.

[Read: Should You Consider Dividend Yield Funds Given The Turbulence Ahead?]

Hence, in Regular savings fund and Dividend yield scheme, though you may be able to generate an income, it isn't guaranteed. Hence, you should be careful while investing in these funds.

In addition to this, brokers/agents also promote dividend option as a better alternative to growth option.

Dividend option

Mutual funds schemes allow you to choose from growth or dividend option while selecting a scheme. In the dividend option, you can choose from dividend payout option where profits in the form of dividend will be directly credited to your bank account, or dividend re-investment option where the dividend declared will be added as additional units.

In the growth option, any profit earned is added to the NAV. Thus, your investments keep growing through the power of compounding.

Many investors are not aware of how these options work and how it will be suitable for them. They thus fall to the common misconception that `dividend option is always better'. The fact is, dividend option does not always give better returns when compared to growth option. Another important point is that the NAV of the scheme falls to the extent of the dividend declared.

Additionally, declaration of dividends is not fixed, in amount or frequency. They are declared only when the scheme makes a profit and that too at the discretion of the fund manager/house. Dividends are also subject to dividend distribution tax which may make the option less attractive.

One of our readers recently asked us a similar question about whether he should opt for the dividend option. Here is what we replied - Should Senior Citizens Switch To A Dividend Option From Growth Option In Mutual Funds?

If you too have any mutual fund related query, you can write to us at #AskPersonalFN

So how can you get a regular income by investing in mutual funds?

Investors can park their money in equity/debt fund and use Systematic withdrawal plan (SWP) to withdraw a fixed amount. The difference between SIP and SWP is that while you invest regular amount in SIP at fixed interval, in case of SWP a certain amount is withdrawn at fixed interval from your investments in equity/debt funds.

The remaining investments continue to grow over time and the Rupee-cost averages out as you systematically withdraw from your investment.

The point to be considered here is that the withdrawal from the scheme is treated as sale and will be thus subject to applicable equity/ debt tax rate, depending on your holding period. Besides, you should have a good investment corpus to be able to withdraw a decent amount regularly.

[Read: Systematic Withdrawal Plan - The Ideal Option For Your Retirement Needs?]

If you want to depend on mutual funds for a regular income, you should remember that while some of these schemes/options may help you earn income, the income will not be necessarily fixed.

You should depend on mutual funds for regular income only if it provides better income as compared to FD, POMIS, PPF, NPS and SSS. Depending solely on mutual funds may prove to be imprudent as it is a market-linked product which is subject to market risks and hence it cannot guarantee regular income.

You need to assess your risk profile, time horizon, investment objectives, and the suitability of the funds to your needs before opting for a particular scheme. Make sure to select the scheme after evaluating it based on various quantitative and qualitative parameters.

Lastly, assess if the investments avenues you choose will be able to counter inflation. Consult with an investment adviser on the suitability of the funds for your needs before making major financial decisions.

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