Growing your wealth is as important as saving money. The earlier you invest, the more benefits you can reap later in life. While there is an array of investment options available, SIPs (Systematic Investment Plans) are one of the smartest ways to invest. It is one of the most sought-after investment options, even among seasoned mutual fund investors.

Despite their popularity, misconceptions about SIPs are very common. This article will explore 10 things you should know about Systematic Investment Plans (SIPs).

This article covers:

What are SIPs?

SIP is the acronym for Systematic Investment Plan. It is an organised way of periodically investing a fixed sum of money in a mutual fund. When you set up a SIP, a fixed sum debits from your account regularly (monthly, quarterly, weekly, etc.). The sum is invested in a mutual fund of your choice, which accumulates and grows in due course.

How much money do I need to start SIP?

You can start investing in a mutual fund investment scheme via SIP with a minimum amount of Rs. 500 in some funds. 

Why are SIPs so popular?

SIPs offer a convenient way of creating wealth in the long run through small investments. Moreover, SIPs are affordable since they allow exposure to mutual fund investments for pocket-friendly amounts as low as Rs. 500 in certain funds. Overall, SIPs are an excellent investment option for investors looking to create wealth over time from mutual fund investments. First-time investors who want to experience how mutual fund investments work may also consider the SIP route in order to protect their capital from full exposure to equity.

How are SIPs calculated?

SIP calculations consider two aspects: the power of compounding and rupee cost averaging.

Power of compounding: It refers to the compound interest you earn on a sum over a fixed period. Say you invest Rs. 10,000 at 10% for 5 yrs, interest compounded annually. So, your total interest will be Rs. 6,105.10. In contrast, the simple interest on the same sum at the same rate would have been Rs. 5,000. Investing in a SIP for an extended period amplifies the benefits of compounding.

Rupee cost averaging: SIP mutual funds leverage the rupee cost averaging principle. In this approach, you invest a fixed sum of money at regular intervals regardless of whether the markets are high or low. Therefore, it ensures that you buy lesser units when markets are high and more when they are low. As a result, the system brings down your average cost of investing in the long run, giving you better returns.

There are various SIP calculator tools available that will help assess the amount you need to invest in a regular manner, within the time horizon you have, to achieve your financial goals.

Are SIP returns exempt from tax?

The type of mutual fund you invest in and when you reclaim your investment dictates if your SIP returns are taxable. If you hold the SIP for less than a year, SIP returns from an equity mutual fund are taxable at 15%. Gains redeemed after a year of investment in such funds are entirely tax-free up to Rs. 1 lakh in a financial year. However, if your SIPs are in debt mutual funds, the returns are taxed at 20% (after indexation) if you redeem three years post-investment, and taxed at your income slab if redeemed earlier.

Can SIP be paused?

Yes. You can pause a SIP anytime you want. After you’ve stopped paying for your SIP plan, you can either redeem your money from the fund or remain invested. Rules for temporary pausing of SIPs differ between mutual fund houses.

SIP vs RD: what’s the difference?

  • SIP is an investment plan in mutual funds. RDs are recurring deposits in banks.
  • Unlike RDs, returns on SIPs are market-linked and not fixed. 
  • SIP offers investment options (equity or debt mutual funds), RD doesn’t.
  • SIPs have no fixed tenure and allow redemption any time, but RDs have a maturity date.
  • SIPs allow small, periodic investments. In RD, you can invest a monthly fixed amount.

Does SIP have an exit load?

Whether you have to bear exit load depends on the mutual fund and is calculated on the value you redeem. Most equity fund schemes charge a 1% exit load for redemptions within a year of investment. Redemptions after a year are free from exit load payment. So, if you redeem Rs. 2 lakh before a year, the exit load you bear is Rs. 2,000.

Do SIPs have a lock-in period?

A lock-in period in mutual funds means that you cannot redeem your money before the completion of a fixed period from the investment date. Open-ended mutual funds have no lock-in period, even for SIP investments. However, ELSS is the only open-ended mutual fund with a three years lock-in period. On the other hand, you may not be able to exit from a close-ended mutual fund scheme at the price you may want before the completion of the maturity period.

How to invest in SIP?

Here’s a simple step-by-step guide on how to invest in SIP:

  • Select a mutual fund scheme with SIP as the payment option.
  • Select the investment frequency.
  • Select the minimum amount you want to invest.
  • The amount will convert into units (depending on Net Asset Value).
  • The units accumulate over time.
  • You can redeem the units at NAV of the day whenever you decide to exit the scheme.

Conclusion

The goal of investing in mutual funds is to let your investments grow and yield better returns. SIPs offer the convenience and ease of investing small amounts on a monthly, weekly, or quarterly basis. Moreover, you get the option of investing in different schemes (debt or equity) based on your risk appetite. However, it is paramount that you thoroughly understand the market before investing. Consult your financial advisor before investing.

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