What is IDCW in mutual funds?

Mutual funds can distribute a part of their income earned to their shareholders, investors, or unitholders in the form of dividends. Mutual fund schemes distribute dividends earned by way of investing in stocks and gains by selling underlying stocks from the scheme portfolio. Such distribution of income of a mutual fund scheme is considered a withdrawal of capital; they are called "Income Distribution cum Capital Withdrawal" or IDCW. Let's find out what are dividends and all about IDCW. 

Dividend Meaning:

Dividend refers to the distribution of a portion of a company's profits to its shareholders. It is usually paid out in the form of cash but can also be in the form of additional shares of stock or other assets. The decision to pay dividends is made by the Company's board of directors and requires the approval of the shareholders. It's not mandatory to pay dividends, and the amount may also vary depending on the Company's financial performance, future growth plans, and other factors.

Mutual funds also pay out dividends which essentially involve the distribution of earnings from a stock or a Mutual Fund. In Mutual Fund schemes, dividends can be de-declared when the fund has booked profits on the sale of securities in its portfolio. Such payouts being the withdrawal of capital, are termed "Income Distribution cum Capital Withdrawal" or IDCW. IDCW was formerly known as dividend options. 

As per SEBI regulation, a fund can declare dividends only from the gains it has made from the sale of securities in the portfolio or through any current income in the form of interest or dividends. Such gains are transferred to a Dividend Equalization Reserve, and at the discretion of the trustees, a dividend is declared.

It's important to note that while dividends have the potential to offer a steady stream of income for investors, they are not guaranteed and can fluctuate over time. Now that we know the dividend meaning let's see how it works. 

How do Dividends work?

A scheme which focuses on equity investments may receive dividends and bonus issues from the companies it has invested in. However, unlike individual stocks, these dividends are received by the fund rather than being paid directly into an investor's bank account. These dividends and bonuses can increase the fund's assets under management (AUM) and subsequently boost the fund's net asset value (NAV). The fund manager can then use this additional capital to seek out new investment opportunities. In the Growth Option, the profits made by the scheme remain invested in the scheme. In the IDCW option, the profits made by the scheme may be distributed to the investor partially or fully at the discretion of the fund manager / AMC.

The difference between IDCW and dividends declared by the Company. There are significant differences between IDCW and dividends paid by companies. Companies distribute dividends out of the profits after taxation (PAT) post approval from the management. Typically, companies declare dividends after setting aside a portion of the profit for future growth and then decide to set aside a portion of the earnings for the purpose of distribution to its shareholders. 

In contrast, mutual fund schemes can only distribute dividends from the accumulated profits of the scheme. The Asset Management Company (AMC) determines the per unit dividend pay- (IDCW). However, even if the scheme distributes dividends or not, the accumulated profits of a scheme are reflected in Net Asset Value (NAV).

What are the types of Dividends?

Following are the various types of dividends: 

1. Cash dividends: 

These are probably the most common form of dividends, typically paid out in cash. Shareholders receive a dividend amount based on their stock ownership. The benefit of cash dividends is that shareholders receive immediate cash.

2. Stock dividends: 

These are handed out as additional shares rather than cash to shareholders. Dividends from shares or stocks offer the advantage of potentially increasing a shareholder's returns without requiring additional investment.

3. Property dividends:

These involve distributing assets or property of the Company instead of cash or shares. These assets can range from real estate to any form of physical asset owned by the Company. 

Final Word

It's important to understand dividend meaning and all its other aspects to make informed investment decisions. IDCW option of mutual fund schemes may be a good alternative for investors seeking regular income /cash flow. IDCW is a potential avenue for regular and passive income. So, if one decides to invest in mutual funds, then it is critical to ensure that the mutual fund scheme is selected based on one's risk appetite and financial goals. You can opt for systematic investment plans or SIP for mutual fund investments. 

FAQs

Q1. Do Dividends Affect a Stock's Share Price?

An announcement of a stock dividend usually increases the price of the stock. But, at the same time, it can happen that because of the increase in the number of outstanding shares resulting from the stock dividend, while the Company's value remains unchanged, the book value per common share is diluted, leading to a corresponding decrease in the stock price.

Q2. How can I invest in mutual fund schemes that pay dividends?

Mutual fund schemes can be purchased through a direct plan which does not involve a financial intermediary, or through a regular plan with the help of a financial advisor or mutual fund distributor. 

Q3. Are IDCW taxed?

IDCW income received by the investor is included in their total taxable income and subjected to taxation based on the investor's income tax slab rate. 

Q4. What is the purpose of changing the dividend payout option to IDCW by the regulator? 

The regulatory intent is to provide investors clarity that, under the Dividend Option of a Mutual Fund Scheme, a certain portion of the capital (Equalization Reserve) is distributed as a dividend.

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These materials are not intended for distribution to or use by any person in any jurisdiction where such distribution would be contrary to local law or regulation. The distribution of this document in certain jurisdictions may be restricted or totally prohibited and accordingly, persons who come into possession of this document are required to inform themselves about, and to observe, any such restrictions. Investors may consult their financial advisors and/or tax advisors before making any investment decisions. Investors should read the Scheme information documents carefully before making any investment decision. The past performance may or may not be sustained in future, and is no guarantee of any future results.

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