Understanding the basics of Mutual Funds

A mutual fund is an entity that pools money from various investors and then invests this money into various asset classes such as stocks, bonds, cash, short term debt, etc.

They are operated by professional fund managers and in compliance with various regulations.

Wherever a mutual fund invests and in what proportion is termed as its portfolio.

A mutual fund portfolio has to be in accordance with the requirements of both, the investment objectives stated in its prospectus as well as the category it belongs to.

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Types of mutual funds

Equity Mutual Funds

An equity mutual fund is any mutual fund that by SEBI regulations needs to invest a minimum of 65% of its overall portfolio in to equities.

If you are investing in an equity mutual fund then you are basically investing in stocks of different companies.

Additional reading: Click Here to read about what the Chinese Bamboo can teach you about equity investing

Debt Mutual Funds

Debt mutual funds invest in fixed returns instruments such as corporate bonds, government securities, treasury bills and commercial papers and so on.

Debt mutual funds are less volatile than equity mutual funds.

They are most suited for investors with a low risk appetite and for short term goals.


Hybrid Mutual Funds

Hybrid mutual funds invest in a mix of equity and fixed income instruments.

Their main purpose is to find a balance between the high returns of equities and stability of fixed income instruments.


Liquid Mutual Funds

As the very name suggests, liquid mutual funds are highly liquid in nature.

Liquid funds invest in debt and money market instruments such as government bonds and treasury bills with a maturity period of up to 91 days.

Gilt Mutual Funds

Gilt mutual funds invest in government securities.

Although gilt mutual funds do not carry a credit risk, they however do carry interest rate risks.


Index Funds

Unlike other mutual fund schemes, index funds are not actively managed but rather passively managed.

An Index would track a particular index such as Nifty or Sensex.

To put it simply, index funds would invest in the same funds as the index has.


Tax Saving/ELSS Mutual Funds

Tax saving/elss mutual funds allows you an exemption of up to 1,50,000 in your taxes under section 80c of the income tax act.

Tax saving funds have the lowest lock in period of 3 years among the instruments available to avail exemption.


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What is a mutual fund nav?

A mutual fund nav is basically the price of the particular mutual fund scheme.

When you invest in a particular mutual fund, you are allotted units.

The number of units is arrived at by dividing the investment amount with the NAV.

If you invest 50,000 and the nav is 20, then you receive 2,500 units.


How to invest in Mutual Funds?


KYC stands for Know Your Customer and is only a one time exercise similar to what banks have when you have to open a banking account.

Unlike a banking account kyc though, you need not do a KYC each time you invest in a new mutual fund house.

You only need to do your KYC once before you start investing in mutual funds.

This can be done via offline form or online.

KYC requires basic information like your contact number, email id, communication address, etc. among other things supported by a self- attested pan card copy coupled with another self-attested document capturing your address (aadhar card, electricity bill, driver’s licence, etc.)


Have an Emergency Fund

Ideally you should set aside an emergency fund equivalent to six months expenses aside before investing in mutual funds.

This could be in a combination of liquid funds and fixed deposits.

The emergency fund could be more than six months of expenses depending on other prevailing conditions but never less.

Having an emergency fund has several benefits, first the very obvious one that you have the finances to fall back upon in case of an emergency.

Secondly you do not feel compelled to touch your investments when in an emergency, if you do then both your valuations as well your goals are affected negatively.

Thirdly when you touch your investments in case of your emergency, you would also need to pay taxes as and when the conditions for the same are met with.

It is better to invest a lower amount to begin with and set aside an emergency fund then to invest the complete amount without any emergency fund and then touch your investments in case of an emergency.


Additional reading: Click Here to read about how Inflation is destroying your hard earned money.

Professional Advice

In a highly populated country like ours, opinions will always be aplenty and mutual funds are no exception to that.

It is one thing to receive unsolicited advice from family and relatives but with mutual funds recent trend suggests that investors also seek advice from strangers on social media who are no more qualified than them for mutual fund ‘advice’.

This never bodes well since the advice you receive, whether solicited or unsolicited has no accountability or qualification and you end up moving in and out of schemes based on differing advices you receive which in turn means higher taxes and exit load charges.

Mutual fund advice is not a one time thing, it is:

  1. Prior to investing
  2. While invested and
  3. How to redeem

So do the simple and sound thing of reaching out to a distributor/adviser for better handling of your mutual fund investment.

Be it wealth or health, only let the qualified professionals enlighten you.


Options in Mutual Funds

Growth or Dividend

When you invest in mutual funds you get the following two options:

  1. Growth
  2. Dividend

The growth option means any appreciation the fund makes would be added to your valuation amount and will stay the same way until and unless you decided to withdraw.

The dividend option within itself too gives you further two options:

  1. Dividend pay-out
  2. Dividend reinvestment

With dividend pay-out, you would get any dividend declared.

Whereas in dividend reinvestment, any dividend declared is reinvested back into the same mutual fund scheme that you hold.

In the dividend pay-out option, any dividend declared by your mutual fund scheme would be paid to you.

Whereas in the dividend reinvestment, any dividend declared by your mutual fund scheme would be reinvested in the same scheme.



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Modes of Investment

There are various modes to invest in mutual funds.

These include:

  1. SIP
  2. Lumpsum
  3. STP

A SIP stands for Systematic Investment Plan where you invest a fixed amount on a fixed date either daily, weekly, monthly, bi-monthly or quarterly.

A lumspum means a one-time investment.

A STP stands for Systematic Transfer Plan wherein you first invest in a liquid or debt fund from where the amount is periodically shifted to your preferred equity fund.

For redemption too, you can either redeem the entire amount in one go, in several tranches or avail the Systematic Withdrawal Plan wherein a fixed amount is withdrawn periodically.


How are mutual funds taxed? 

Mutual funds are taxed based on the asset classes they invest in.

There is one set of rules for equity mutual funds and another for debt mutual funds.

For the purpose of taxation, international mutual funds are considered as debt mutual funds.

Equity Mutual Funds


Long term capital gains tax better known as LTCG is applied on equity mutual funds when the gains from equity mutual funds held for more than a year are more than 1 lakh.

The LTCG rate is 10%.

Capital gains up to 1 lakh are exempt for taxes.

There is no indexation benefit when calculating LTCG.



Short term capital gains tax better known as STCG is applied on gains from equity mutual funds which are held for 12 months or less.

The STCG rate is 15%.

There is no ceiling benefit in STCG like the 1 lakh ceiling in LTCG.

STCG is charged on from Re 1.



Debt mutual funds


For debt mutual funds, long term capital gains tax is applied on gains from debt mutual funds held for more than 36 months.

The LTCG rate for debt mutual funds is 20% after indexation.



For debt mutual funds, short term capital gains tax is applied on gains from debt mutual funds held for less than 36 months.

Short term capital gains are added to your income and taxed as per your income tax slab.


For portfolio enquiriesemail us with your doubts at info@themutualfundguide.com

Disclaimer : While due precaution has been undertaken in the preparation of this article, The Mutual Fund Guide or any of its authors will not be held liable for any investments based on the above article. The above article should not be considered financial advice and has been published only for your perusal. Due credit has been given in case wherever required, in case you feel any part violates any rights then do get in touch with us and we shall get it duly removed.  
Mutual Fund investments are subject to market risks. Please read the offer document carefully before investing

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