For the past 18 months, I have been investing in Kotak Standard Multicap Fund regular plan and Nippon India Small Cap Fund regular plan. I invest ₹2,000 each month in the growth option of both these funds through a broker. I feel that if I invest the money through direct plans, the returns would be more, compared with regular plans. I plan to transfer the investments to an app-based intermediary that offers direct plans. Please suggest if it is a good idea to transfer or if I should continue with the broker.

Madhu S

You are right. When you invest in the direct plans of mutual fund schemes, your returns will be better than what you would get in the regular plans. This is because the expense ratio of direct plans is lower than that of regular plans. The expense ratio is lower in direct plans because you invest directly in the scheme without routing it through an intermediary/distributor/broker and so save on the commission paid to these intermediaries. The lower the expense ratio, the higher the returns.

For instance, in Kotak Standard Multicap (earlier Kotak Select Focus), the expense ratio currently in the direct plan is 0.87 per cent, while it is 1.63 per cent in the regular plan. In Nippon India Small Cap, the expense ratio currently in the direct plan is 1.25 per cent, while it is 2.06 per cent in the regular plan. The difference in the expense ratio between direct plans and regular plans (0.76 percentage points in the case of Kotak Standard Multicap and 0.81 percentage points in the case of Nippon India Small Cap) can translate into a significant difference in the returns for an investor over the long run.

Over the past 18 months, through the monthly SIPs of ₹2,000 in the regular plans, you would have invested ₹36,000 each in Kotak Standard Multicap and Nippon India Small Cap funds. The value of your investment today would be about ₹38,483 in Kotak Standard Multicap and ₹34,433 in Nippon India Small Cap. In short, through the direct plan route, you would have gained more in Kotak Standard Multicap and lost less in Nippon India Small Cap. Had you invested in the direct plan, the value of your investment would have been ₹38,757 in Kotak Standard Multicap and ₹34,664 in Nippon India Small Cap. Over longer periods of five years or more, the difference in returns becomes more visible. For instance, had you been investing ₹2,000 each month in Kotak Standard Multicap from January 2013 when direct plans were introduced, your total investment of ₹1,68,000 would be worth about ₹2.9 lakhs in the direct plan and about ₹2.78 lakhs in the regular plan – a difference of ₹12,000. A similar investment in Nippon India Small Cap would be worth ₹2.99 lakh in the direct plan and ₹2.85 lakh in the regular plan – a difference of ₹14,000.

So, from the point of higher returns, it makes sense to shift to the direct plans of these schemes from their regular plans. But a few points of caution here. One, direct plans are suitable for financially savvy investors who can make their own decisions on when, where and how to invest.

For investors who need hand-holding, regular plans in which informed intermediaries could offer guidance, may be more suitable. Next, consider the tax implications when you decide to shift the existing investment from regular plans to direct plans or vice versa.

Such shifts will be treated as redemptions (sales) and fresh purchases, and tax on gain on redemptions (sales) will have to be paid, if applicable. Any gains on sale of equity funds held for 12 months or less will be considered short-term capital gains (STCG) and taxed at 15 per cent. Gains on sale of equity funds held for more than 12 months will be considered long-term capital gains (LTCG) and taxed at 10 per cent.

Such LTCG on equity mutual funds is exempt up to ₹1 lakh a year. In the case of monthly SIP investments, the period of 12 months has to be calculated for each SIP instalment separately, to determine whether the gain is STCG or LTCG.

In your case, it is a good idea to first stop the ongoing SIPs under the regular plan and start fresh ones under the direct plan.

For existing investments, make the shift from the regular plan to the direct plan after the period of 12 months is over. This will make the gains LTCG, and since LTCG is unlikely to exceed ₹1 lakh, you may not have to pay tax on the gains.

Making the shift after the 12-month period is over will also likely help you avoid exit loads, since in the case of equity funds, exit loads generally don’t apply after this holding period. Both Kotak Standard Multicap and Nippon Small Cap are high-rated funds (5 and 4 stars respectively) as per BusinessLine Star Track ratings .

Send your queries to mf@thehindu.co.in

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