Things to know before switching from a regular to a direct mutual fund plan

As you become a more experienced investor, you'll want to take more control of your portfolio. By taking the direct route, you not only cut back on commissions but also become a more confident investor. This helps you avoid falling prey to the misselling of funds.

So making this decision is a good one. Simply remember that you'll need to redeem your regular investments and start a fresh investment in a direct mutual fund plan. And this will attract some costs.

Without further ado, let's discuss these costs and other considerations to keep in mind:

• Exit load: An exit load is charged as a certain percentage of the NAV upon the redemption of a mutual fund. Usually, it is levied when you exit a scheme within a specified period. In an equity fund, exit load is applicable if the investment is redeemed within a year.
  Suggested read: How is exit load in a mutual fund calculated?
  
• Lock-in period: Certain fund categories such as equity-linked savings schemes (ELSS) as well as some solution-oriented schemes like retirement and children-specific funds have a mandatory lock-in period. Bear in mind that you'll not be able to make a shift if you're invested in these unless the lock-in period elapses.
  
• Capital gains tax: You'll attract capital gains tax when you exit from (or redeem) the regular mutual fund plan, depending on the type of fund. If you wish to reduce the tax liability, transfer the amount to the direct plan in a staggered manner. You can spread your investments across 12-15 months if the amount is huge.
  Also, look for opportunities in the form of sharp corrections in the market to make these shifts. Whenever the market falls, some of these capital gains erode. That itself can be an opportune time to make some of these shifts.

Do note that the exit load, lock-in period and taxation may differ if you've invested via SIPs. These are calculated from the date of each SIP instalment, separately. So if you've invested in an ELSS fund which has a lock-in period of three years, each SIP has to complete three years before you can redeem from it. It's the same for when you calculate the tax liability and exit load.

It should also be noted that direct mutual fund plans (when compared to regular plans) come with a slightly lower expense ratio. A small 1 per cent extra fee can massively impact your returns in the long run. So, yes, you are making a good decision by making this switch, despite the related costs. However, it is essential to plan this shift smartly.

Also read:
How does expense ratio affect returns?
Is it worth switching from regular to direct funds?

This article was originally published on December 01, 2022, and last updated on October 18, 2024.