Since December 2007, I invested in a fund via a SIP. However, I have a few queries regarding my exit. When should I exit from the fund? Should I exit at one go or through a SWP? I know I can build a large corpus by systematically investing. But what happens if I regularly book profits? Or must I stay invested as per the actual plan? My other query is regarding the tax aspect. If I were to do an investment at one go, it's easy to determine the tax. What about in the case of SIP, when units are given to me at fixed intervals during the year? I have units that are around 3 years old some that are just a month old.
-- Jayaram Krishnan
Broadly, there are two issues that you want answered; the tax aspect and when to sell your investment.
The tax effect
Let's look at the tax aspect first. You have invested in an equity fund via a Systematic Investment Plan (SIP). If you invested in a dividend option, your dividends would be tax free. If you sell your units after a year of holding, you pay no long-term capital gains tax. However, if you sell units before 12 months of holding, you pay short-term capital gains tax, which is currently at 15 per cent.
The capital gains calculation is done on when the SIP was made and is based on the principal of First-In, First-Out (FIFO). So when you sell units, the fund house will redeem the units you obtained from the first SIP onwards. Let's say you accumulated 3,000 units and are selling 100 units. For the sake of simplicity, let's further assume that you obtained 40 units in your December 2007 SIP and 60 more in your January 2008 SIP. When you sell 100 units, it is these that will be taken into account (the very first ones). Since the holding period is more than a year, you pay no capital gains tax. So to avoid short-term capital gains tax, you will have to sell your last units (units obtained in the latest SIP investment) after 12 months from the date of investment.
When to sell
When to exit from a fund is an issue with numerous dimensions and to your credit, you obviously have been giving it much thought.
• If the fund manager changes and you are not happy with the way it's currently being handled, it's time to make a break.
• If the fund's performance has been consistently dipping, you should take a fresh look at whether or not it must be part of your portfolio. Don't let one month of bad performance make you change your mind. At least four quarters should go by with lower than average performance before you take a call.
• If there is a change in the investment mandate or style of the fund, then it may no longer be a fit in your portfolio.
• Another aspect to consider is rebalancing. We always advise investors to have a pre-determined debt:equity allocation. If there is a sudden change in market conditions and the allocation gets skewed, it's time to sell some units to rebalance the portfolio. Or, it could be an annual rebalancing exercise.
Do you need the money? Having mentioned all of the above, the prime factor that guides investment decisions is whether or not you need the money at that point in time.
Let's say you invested with a targeted amount in mind. You invested mid-2008 with a goal of making Rs 3 lakh in four years. But now, way before your mid-2012 deadline, you have achieved that target and the market value of your investment is Rs 3 lakh. In that case, exit from your fund and put the money in a fixed deposit or a liquid fund. You invested with a target amount and time frame; you achieved it before time, good for you. Now let's say you are saving for retirement which is due in January 2012. In that case, you should have started systematically withdrawing your money a while back. Never wait to exit at one go. Think of those who were saving for their retirement and were planning to withdraw their money at one go late 2008. They would have been in a soup. But had they started the withdrawal process from 2007 onwards, it would have held them in good stead. So when the market is on a high and you are approaching your goal, start a Systematic Withdrawal Plan (SWP) where units are sold and the money is either channelized into a liquid fund or a bank account where it can go into a recurring deposit.
In the same way you average your investment into the fund, average your exit too. Which brings us to your final query: Should you book profits at regular intervals? We would not recommend that. The beauty of systematic investing is that you average your entry into the fund. And the units you purchase at a lower rate balance the investment you make at a higher rate. Systematically booking profits defeats the purpose of an SIP.