Here is how a dividend option works
Once you have crafted your financial goals, and you have picked a choice of funds you would like to invest in, the fund house would typically offer you a choice of two plans: Growth plan and the Dividend plan. A growth plan would reinvest profits you have earned on your investments, whereas the dividend plan would pay out income generated or profits earned on your investments. If you choose the dividend option you would receive profits through dividends from time to time either quarterly, half-yearly or yearly. The dividends though do not have a fixed amount or a fixed frequency, it completely depends on the discretion of the fund manager once the scheme makes a profit. As the payouts are announced the same is deducted from the NAV (Net Asset Value) of the scheme. So a growth option is like an auto compounder whereas the dividend distribution option reduces your gains over a period of time. To put in simple words your profits are given back to you over a period of time.
Having said that in the dividend option the fund deducts a Dividend Distribution Tax (DDT) of 10% from the dividends distributed and pays the net amount to you, so the amount you receive is, tax-free. The AMC (Asset Management Company) deducts it on your behalf to pass it to the government. If you need regular cash flow from your investments you can then pick the payout option on the scheme. But before you do that it is important to understand and remember, especially if you are depending on the income received as a secondary source, the dividend payout is not guaranteed income because of its dependency on the funds earned profits and the fund manager’s discretion. The dividend option gives you a moderate capital appreciation along with dividend returns.However, if you are a short-term investor, debt mutual funds could be your answer, it is a great scheme for senior citizens who are looking for a steady income flow as well as capital appreciation.