How does a growth option work?
When you invest in a mutual fund you are offered two choices: Growth option and a Dividend option. Growth option is a favourable choice for a couple of reasons, the plan allows fund houses to reinvest the profit earned, rather than paying it out to you in the form of a dividend on a regular payout. Reinvesting it works for you because the profits made are ploughed back into the scheme, hence increasing the NAV over time compounding your principal, thereby supporting you to create wealth in the long-term. For example, if you purchase 1,000 units of a mutual fund at Rs. 11 and sell it a year later at Rs. 15, the difference of Rs. 4,000 (i.e Rs. 15 - 11 = Rs. 4 * 1,000 units = Rs. 4,000) would be your capital gain and return on your investment.Having said that the tax plan too between the growth plan and dividend plan are different. Let’s say you choose to opt for the dividend option, the dividends you receive would be tax-free because the fund house would have already made a Dividend Distribution Tax cut (DDT) at 10% whereby the net amount is paid to you. In case of a growth plan, if you hold it for less than a year you’d attract a short-term capital gains tax of 15%. But if you hold the investment for more than a year you’d attract long-term capital gains tax of 10%, only if your gains are above Rs. 1 lakh. If you are not looking at the second source of income, here is where the growth option scores over the dividend plan because of the power of compounding. A growth plan ensures a credible estimate of returns which falls in sync with your financial planning thereby helping you achieve your desired financial goals.