Are you wondering how to invest the huge sales proceeds that you just got on your house property?
Go for a Systematic Transfer Plan (STP) in equity mutual funds!
Unlike SIP, you might not be familiar with the STP. As you know SIP is a disciplined way to transfer your money from a saving account to a mutual fund scheme. STP, too, works on similar lines.
Systematic Transfer Plan (STP) enables a planned transfer of funds from one mutual fund scheme to another mutual fund scheme for a long-term horizon. In most cases, investors initiate an STP from a debt fund to an equity fund.
In your case too, STP is the most prudent long-term investment strategy to deal with sizeable funds. In absence of STP, you would have to transfer money from a bank account to the equity fund.
However, if you opt for STP instead, you tend to generate higher returns. It is because for an STP, you will be initially investing the lump sum in a debt fund like a liquid fund. Liquid fund is known to yield higher returns in the range of 7%-9% as compared to the mere 4% returns earned in a saving bank account.
Just like an SIP, the STP would help you avoid the difficult decision of timing the market. You can stay free from the tension of catching a market peak.
As your money gets transferred from the one fund to another, the fund manager would keep purchasing additional units systematically. Hence, you will get the benefit of rupee-cost averaging i.e. the per-unit cost of investment will fall gradually.
An STP can also be used to move from a risky asset class to a less risky asset class. Suppose you initiate an SIP for 30 years into an equity fund towards retirement planning. As you approach your retirement, you can initiate an STP to prevent loss of fund value.
In this, you instruct the fund house to transfer a fixed amount from the equity fund to a debt fund. In this way, by the time you retire, you would have moved all the accumulated corpus to a safer haven.
Hence, STP can be used in a flexible manner to suit your personal financial goals.
How does a Systematic Transfer Plan (STP) work?
Your returns from an STP depends on the correct execution. For this to happen, you need to have an in-depth understanding of its working mechanism.
Here are a few steps showing how an STP works:
- You invest the entire sales proceeds of say ₹5 lakh in a debt mutual fund like a short-term debt fund or a liquid fund
- The money that stays in the debt fund waiting to be transferred earns higher post-tax returns than it would have if it were in a bank account
- Then, you give the fund house a mandate to deduct a particular amount every month, say ₹25,000, from the debt fund and invest it in an equity fund
In this way, STP allows you to invest systematically and earn decent returns on the money that would otherwise lie idle in your bank account.
Usually, investors prefer STP of a fixed amount, but you may go for a flexi STP wherein a variable amount is added to the fixed amount during the transfer.
In the flexi STP, this variable amount depends on the performance of the first mutual fund as a certain percentage of the fund’s gains are also added to the STP amount. A fixed STP is easy and uncomplicated and works best for most investors.
An STP can be done only when both the mutual funds belong to the same fund house. Thus, it is essential to do a detailed groundwork to choose the right liquid fund where you will invest your money initially and the appropriate equity fund in which the money will be transferred afterwards.
Taxation and Exit Loads on Systematic Transfer Plan (STP)
While an STP is a good strategy, you should be aware of the tax implications and exit loads on the transfer. Every transfer from one fund to another is considered as a redemption and fresh investment. This redemption will usually be taxable.
The amounts getting transferred within the first 3 years from a debt fund will be subject to short-term capital gains tax. But even with this tax aspect, the returns earned would be higher than those in a bank account.
This is how a systematic transfer plan would be a good strategy to invest in equity mutual funds without catching a market peak and losing out on interest income.