Switching to direct funds: Pay once, gain for years

Reader’s question: I have many mutual funds in regular schemes as against direct schemes. However, shifting has a cost of 12.5 per cent of capital gains. Considering differential returns and the cost of capital gains tax, is it worth shifting? I have an investment horizon of about seven years, considering my age. I have other sources of income for my expenses – Sanjeev Rajendra Pandit

Many investors hesitate to switch from regular to direct mutual fund plans because of the capital gains tax triggered at the time of redemption. Reason? Why pay 12.5 per cent in tax now when I can simply stay put? While understandable, the rationale is wrong.

Here is the thing: taxation does not disappear if you wait longer. When you eventually redeem your regular fund units, be it seven or even 10 years from now, the LTCG (long-term capital gains) tax of 12.5 per cent will be due on whatever gains have accumulated. And since your corpus will likely be larger by then, the absolute tax outgo will only be higher.

Thus, delaying the switch does not help you avoid the tax; it simply postpones it, while the higher expense ratio of the regular plan quietly chips away at your wealth in the meantime.

The cost of staying put

Regular plans carry a distributor commission embedded in your mutual fund’s expense ratio, typically 1-1.5 percentage points more than their direct counterparts each year. That gap may look small on paper, but compounded over a seven-year horizon, it can amount to lakhs on a meaningful corpus. Every year you remain in a regular plan is a year you are paying for a service you may no longer need.

The switching cost is a one-time price

When you redeem from a regular plan and reinvest in a direct plan, you pay LTCG tax on the gains at 12.5 per cent on equity mutual fund gains above Rs 1.25 lakh. This is real money, and it deserves honest accounting. But it is a one-time cost. The expense ratio saving, by contrast, compounds in your favour every single year thereafter.

Here’s a simple example. Let’s say you start investing Rs 10,000 through monthly SIPs in a flexi-cap fund’s regular plan, starting today. After seven years (which is your investment horizon), this is how your final corpus would look like, versus if you had invested in the fund’s direct plan.

As the table shows, an investor who stayed invested in the fund’s regular plan ended up with Rs 50,000 less, despite having invested the same amounts for the same time period. And this difference only widens as your investment horizon increases.

The takeaway? It is better to make the switch to a mutual fund’s direct plan earlier, rather than wait and see your hard-earned money eaten up by higher expense ratios and lower returns.

Switch smartly, not all at once

Going direct doesn’t necessarily mean redeeming all your mutual fund units at once.

Spreading your investment across multiple financial years lets you utilise the Rs 1.25 lakh annual LTCG exemption each time, reducing your effective tax burden meaningfully.

The bottom line

The LTCG tax is unavoidable. The only question is when you pay it and what you get in return. Staying in regular plans means paying the same tax eventually, while also losing out to a higher expense ratio year after year. Switching to direct plans means paying the tax once and then letting the savings compound quietly in your favour. With a seven-year horizon, the case for making the move is clear.

Also read: Why sticking to regular plans cost an investor Rs 20 lakh

This article was originally published on May 01, 2026.