In the world of mutual funds, navigating market volatility and building a strong portfolio requires strategy. Systematic Transfer Plan (STP) is a powerful tool offered by Indian mutual funds that can streamline your investment journey and help you achieve your financial goals.
What is STP in Mutual Funds?
STP stands for Systematic Transfer Plan. It allows you to automatically transfer a fixed amount or units from one mutual fund scheme (source scheme) to another (target scheme) at predetermined intervals. This enables you to strategically shift your investments based on your risk appetite and financial goals. However one should remember that both source and target schemes belong to the same mutual fund.
How Does STP Benefit Investors in India?
-
Rupee-Cost Averaging: STP embodies the principle of rupee-cost averaging. By consistently transferring fixed amounts, you purchase more units when the NAV (Net Asset Value) is low and fewer units when it’s high. This helps average out the investment cost over time, mitigating market fluctuations.
-
Portfolio Rebalancing: As your financial goals and risk tolerance evolve, STP facilitates portfolio rebalancing. You can gradually shift your investments from an equity-heavy (riskier, potentially higher returns) to a debt-heavy portfolio (safer, lower returns) as you near your goals.
-
Disciplined Investing: STP removes the emotional element from investing. By automating transfers, you stay disciplined and avoid the temptation to time the market, ensuring consistent investment growth.
Popular Use Cases of STP in India
-
Equity SIP with Debt STP: This strategy involves setting up a Systematic Investment Plan (SIP) in an equity fund for long-term wealth creation. An STP can be set up to periodically transfer a fixed amount from the equity fund to a debt fund, creating a buffer and managing risk.
-
Debt Fund to Equity Fund: For young investors with a high-risk tolerance, an STP can be used to gradually transfer a portion of their debt fund holdings to an equity fund over a specified period. This allows them to benefit from the potential for higher returns in equities while maintaining some stability in their portfolio.
Things to Consider Before Starting an STP
-
Exit Load: Be mindful of exit loads, which are charges levied by some mutual funds when you redeem units within a specific timeframe. Factor this into your STP plan to optimize returns.
-
Investment Horizon: Align your STP strategy with your investment horizon. Aggressive equity transfers might be suitable for long-term goals, while a conservative approach might be better for shorter-term needs.
-
Risk Tolerance: Assess your risk appetite. Aggressive STPs transferring from debt to equity work best for those comfortable with market volatility.
Taxation of STP
Systematic Transfer Plans (STPs) are a valuable tool for Indian investors, but understanding the tax implications is crucial for making informed investment decisions. Here’s a breakdown of capital gains tax and how it applies to STPs:
Capital Gains in STPs
An STP involves transferring units from one mutual fund scheme (source) to another (target) at regular intervals. These transfers are essentially redemptions from the source scheme and fresh purchases in the target scheme. Since you’re selling units in the source scheme, capital gains tax comes into play.
Tax Treatment Depends on Holding Period and Fund Type:
- Equity Funds:
- Short-Term Capital Gains (STCG): If you sell equity fund units within one year of purchase, the gains are taxed as STCG at 15% plus cess and surcharge (currently around 18.5%).
- Long-Term Capital Gains (LTCG): Equity fund units held for over a year attract LTCG tax. Up to Rs. 1 lakh of LTCG is exempt from tax. Gains exceeding Rs. 1 lakh are taxed at 10% plus cess and surcharge (around 13.5%).
- Debt Funds:
- Short-Term Capital Gains (STCG): Debt fund units sold within three years from purchase incur STCG taxed according to your income tax slab.
- Long-Term Capital Gains (LTCG): Debt fund units held for more than three years are subject to LTCG tax with indexation. Indexation adjusts for inflation, reducing your tax liability. The effective tax rate on LTCG from debt funds can be as low as 20% with indexation.
Minimizing Capital Gains Tax in STPs
Here are some tips to manage your STP strategy and minimize capital gains tax:
- Plan Your Investment Horizon: Align your STP transfers with your investment goals. Long-term goals allow you to benefit from LTCG benefits in equity funds and indexation in debt funds.
- Staggered Redemptions: Consider setting up multiple STP triggers within the source scheme to redeem units at different points in time. This can help you average out your capital gains across different tax brackets.
- Tax-Efficient Source Funds: If your source scheme has accumulated significant gains, explore transferring from a different scheme within the same category with lower capital gains.
AMC specific STP
Let’s discuss some innovative approaches towards STP by a few Mutual Fund houses.
1. TimerSTP - Automating Investment Based on Market Valuation
TimerSTP is a specific type of Systematic Transfer Plan (STP) offered by Samco Mutual Fund in India. Unlike traditional STPs that transfer fixed amounts at regular intervals, TimerSTP uses Samco’s proprietary Equity Margin of Safety Index (EMOSI) to determine the transfer amount.
- EMOSI essentially acts as a valuation indicator. When the market is undervalued (high EMOSI), TimerSTP invests more into the target equity scheme. Conversely, when the market is expensive (low EMOSI), it invests less.
Benefits of TimerSTP
-
Potentially Higher Returns: By aiming to invest more during undervalued periods, TimerSTP aspires to capitalize on potential market upswings.
-
Reduced Emotional Investing: TimerSTP removes the emotional bias of trying to time the market perfectly. It relies on an objective indicator (EMOSI) to make investment decisions.
Traditional STP vs. TimerSTP
Traditional STPs offer a more predictable and rule-based approach to portfolio rebalancing, while TimerSTP introduces a layer of automation based on market valuation. The choice between them depends on your investment goals and comfort level with market timing strategies.
2. Turbo STP from Aditya Birla Sun Life Mutual Fund
Aditya Birla’s Turbo STP automates investment in a target scheme based on their Equity Valuation Multiplier (EVM). A high EVM suggests a potentially undervalued market, triggering a higher investment amount from the source scheme. This helps investors aim for higher returns while reducing the risk of manually timing the market. Source schemes for Turbo STP are primarily debt-oriented where whereas target schemes are equity-oriented.
3. Flex STP from ICICI Prudential Mutual Fund
ICICI Prudential’s Flexi STP is a formula-driven rule-based STP. It tries to adjust the STP amount based on the valuation of the Target scheme. If the NAV of the target scheme falls STP value increases and vice versa.
Conclusion
STP empowers Indian investors with a strategic and automated approach to mutual fund investing. By leveraging rupee-cost averaging, portfolio rebalancing, and disciplined investing, STP can pave the way for achieving your financial aspirations. Consult a financial advisor to create an STP plan that aligns with your unique financial goals and risk profile.
