Mutual funds are considered one of the best market linked investments to achieve short-term and long-term financial goals. Backed by expert portfolio managers, mutual funds are best suited for investors who do not have much time to keep a track of everyday market movements, but still want to grow their wealth.
Mutual funds provide diversification benefits, reasonable returns and capital appreciation. They are less risky than investing in direct equity markets. The money collected in mutual funds is invested by fund managers in line with the mutual fund’s objectives and to offer positive returns to investors.
There are times when investors need to liquidate mutual fund holdings due to unprecedented situations including emergency or other financial liabilities or to invest in alternative investment schemes. This process of exiting from the mutual fund scheme is called mutual fund redemption. Investors can either choose to redeem specific units or can exit the mutual funds entirely.
Selling mutual funds follow a different model compared to selling shares of stock or exchange traded funds (ETFs). When a mutual fund is sold, it is termed redemption. Mutual fund houses usually keep cash reserves to cover investor redemptions so they aren’t forced to liquidate any portfolio holdings at inopportune times.
Mutual fund products essentially come with two exit options – voluntary exit at any time during the term of the fund or redemption upon maturity or after lock in. A voluntary exit (before or after lock in) may or may not have an exit load attached. Calculated in percentage, this is the charge that the investor has to bear for redeeming the mutual fund before its maturity.
Redeeming Mutual Funds
Mutual fund categories may levy charges to investors if they wish to redeem their mutual funds. Sometimes, investors are levied exit load in case they opt to redeem mutual fund units before a specific time period.
Exit load usually is around 1% of the total amount withdrawn. Exit load varies for equity mutual funds and debt mutual funds and are different for short and ultra-short funds. Returns on mutual funds are also liable to capital gains taxes depending on the amount and the period of holding. This exit load and capital gains tax can significantly impact the final earnings in hand. Investors should carefully consider the exit loads before redeeming their mutual fund units.
When to Redeem Mutual Funds
From a personal finance perspective, there is no “right” or “wrong” time to redeem a mutual fund. This decision solely depends on your goals as an investor. Investors can redeem mutual funds in order to liquidate cash for short term goals like buying a car, or going for a vacation or long term goals like investing in real estate, child’s education/marriage, retirement, etc.
Sometimes, investors also decide to redeem their mutual funds depending on the current sentiment in the market or if they want to invest in other asset classes. For example, conservative or risk averse investors usually prefer redeeming their mutual funds when the market is bearish since they want to avoid further risks and losses.
This is purely a personal decision and should be taken by investors considering the expenses likely to be incurred and their current and future financial goals and liabilities.
How to Redeem Mutual Funds
The redemption of mutual funds can be done via online or offline methods. In order to redeem funds through offline mode, investors needs to submit a duly signed redemption request form to the AMC’s or the Registrar’s designated office. Investors need to duly fill-in all the details including holder’s name, folio number and number of units to redeem in the redemption form.
Additionally, investors need to sign the redemption form. The proceeds from the redemption will be credited to the registered bank account of the mutual fund holder.
Mutual funds can also be redeemed online.
Investors can log-on to the desired mutual fund website and log in using your folio number and/or the PAN card, select the scheme and the number of units (or the amount) you wish to redeem.
There are different ways to redeem a mutual fund – through an asset management company (AMC), an agent or directly through your personal demat account.
• Redemption through AMC:
Most AMCs have a dedicated portal, mobile application and relationship manager for their customers. If you have purchased your mutual fund units through an AMC, you can simply log in to the portal and sell your units. Investors can choose to redeem some units or all units based on their preference. Some AMC’s also have mobile applications through which you can do the same process.
• Redemption through Demat:
If you have purchased your mutual fund units through your personal demat account, the process here is straightforward. Investors can simply log in to a securities account through the internet (or through the bank or financial institution’s mobile application) and make an application for redemption.
Here also, after a few days of application your payment will be settled through your chosen mode of payment. Usually, the amount is credited to the bank account that is linked to the demat account.
Things to Remember While Redeeming Mutual Funds
While redeeming mutual funds is a simple process, there are a few things which investors must keep in mind
• The day and time for redemption
The settlement cycle for every category of mutual funds is different and can range from T+1 to T+7 days. These days are strictly business days and do not include weekends. Hence, while putting in a redemption application investors must be vary of the settlement cycle before raising the request for redemption of mutual fund units.
Additionally, mutual funds are settled on the basis of their NAV or net asset value. This is the value at which the fund is traded for on the exchange. The current cut off time for this NAV is 3 p.m.
If you put in your application before 3 p.m., the mutual fund units would be redeemed at the current day’s NAV. However, if your application is processed post 3 p.m., the mutual fund units would be redeemed at the next day’s NAV. This scenario might make a substantial difference to your final earnings if there is a visible disparity between the two NAVs.
• Capital gains tax
The time frame for which mutual funds are held is an important factor of your overall earnings. For equity funds, the time period of less than 12 months is considered short term. Redemption within 12 months is termed short term capital gains and these are taxed at around 15%. Long term capital gains (holding time of more than 12 months) are tax free up to INR 1 lakh and taxed at 10% above this limit.
For debt funds, the taxation system is different. Short-term capital gains (if the units are sold before three years) are taxed as per applicable tax rate of the investor. Long-term capital gains are taxed at 20% with indexation.
Ideally short term gains are always taxed higher than long term gains. Hence, while applying for redemption, it is imperative to consider the taxation amount to have a holistic view of the overall gains.
• Exit load and other charges
Redeeming mutual funds before maturity incurs charges in the form of exit load depending on the type of mutual fund investments. This is a fixed percentage of around 1% to 2%.
The Ministry of Finance levies 0.001% tax as securities transaction tax (STT) in case of certain funds. They levy this tax when the investors decide to buy or sell units of equity or equity-oriented funds. This is not applicable in the case of debt funds.
Bundled with the taxes as mentioned above, it can hamper the overall returns. Thus, these charges should be carefully considered before applying for redemption.
Bottom Line
As mentioned earlier, redeeming a mutual fund is a personal decision based on one’s individual goals, other investment opportunities, financial liabilities or other unprecedented scenarios.
Investors usually invest in a mutual fund on the basis of its past performance, team of managers and overall principles, terms and conditions. A change in any of the above may lead to the investors opting for alternate investment opportunities.
For example, investors who have invested in a fund hoping for high returns may choose to exit it if they are seeing consistent low returns even in a bullish market. Secondly, if as an investor you have chosen a particular fund based on the fund manager, investors can choose to exit the mutual funds if the fund manager is no longer associated with the fund house.
Investors should carefully consider all the options, including exit load, taxes, financial liabilities, goals before redeeming mutual fund units.