IDCW in Mutual Funds Explained

Mutual Funds provide many plans to cater to different investor needs and goals. They are a popular tool for long-term wealth creation. You can invest in them via Systematic Investment Plans (SIPs) or make a lump sum (one-time) investment.

While many use Mutual Funds as a means to build wealth over time, did you know you can use Mutual Funds to receive regular income, irrespective of the fund’s profit generation?

Under the Income Distribution Cum Capital Withdrawal (IDCW) scheme, you can receive regular income from your Mutual Fund investments. Let’s understand more about this.

What is IDCW? A Mutual Fund plan that allows investors to receive regular payouts and also provides the flexibility to partially withdraw the capital if necessary.

Prior to April 2021, this feature was referred to as the "dividend option." In April 2021, the Securities and Exchange Board of India (SEBI) directed Mutual Fund houses to change the name from 'dividend option' to 'Income Distribution Cum Capital Withdrawal (IDCW)' to prevent confusion between dividends earned on Stocks and those from Mutual Funds.

How do IDCW plans work?

When a Mutual Fund generates profits, it has two options - reinvest the profits back into the fund or distribute them to investors. If the fund decides to distribute profits, it issues IDCWs to investors

These IDCWs represent the investor's share of the fund's profits The IDCW amount is determined by the fund's Net Asset Value (NAV) and the duration of the investor's holding period

IDCW payouts can be scheduled regularly, such as monthly or quarterly Tax authorities treat IDCW payments as capital gains, subjecting them to a lower tax rate compared to regular income

Mutual Fund Growth Option vs. IDCW

In the growth option, any dividends earned are reinvested, growing the total investment value over time. In contrast, IDCW options provide regular dividend payments, but with each payout, the invested capital decreases, leading to a reduction in the fund's value.

For example, if you have 1,000 units in a Mutual Fund and receive a ₹5 dividend per unit, you'll get ₹5,000 in dividend payouts. With the IDCW option, after each payout, the investment value decreases by ₹5, resulting in a lower fund value.

How IDCW is different from dividends on stocks

Companies announce dividends from the profits earned by them. They usually distribute a portion of the profits among shareholders. It won’t have a direct impact on the investment value. Also, it is not mandatory for companies to announce dividends and they can retain the entire profit.

Under the IDCW option, Mutual Funds pay dividends from the profits earned by the schemes. The accumulated profits of a Mutual Fund scheme belong to investors. The Mutual Fund house decides on the rate at which dividend will be paid as per the profits earned.

Also in an IDCW scheme, the time interval of the dividend payout is predefined. Mutual Funds are required to distribute dividends at least once in a financial year. After the dividend payout, the NAV of the scheme always declines as the total investment value is reduced.

Who should choose the IDCW option?

The IDCW option could be a suitable choice for those investors looking for Mutual Funds with regular payouts. These schemes also allow a partial withdrawal of the capital, to meet any financial emergency.