Hey, I just got my first salary; feels so good to see the payslip.

Where should I invest my salary?

 That’s great man! So how are you planning to use your salary?

No plans as such. But I surely want my money to grow instead of keeping it ideal in hand/account.

So why don’t you invest through SIP in mutual funds?

SIP? What is SIP?

SIP is Systematic Investment Plans. It is a way of investing regularly in an organized manner in a mutual fund. Sometimes we don’t have a huge amount of money to invest, so in SIP you can invest a fixed amount periodically.

You can choose the mutual fund you want to invest in and then over a period of time your money keeps growing.

That sounds pretty interesting.

Is SIP safe?

You have the advantage of rupee cost averaging in SIP.

And what is rupee cost averaging?

Sometimes the market is either overvalued or undervalued and you need to keep in mind the timing of market while investing in mutual funds.

But this is not the case with SIP.

You need not worry about the market timing while investing in SIP. There are times when prices are high and sometimes the prices are low; so if you see in long-term then the price you pay is the average of high and low.

Thus, you get the advantage of Rupee Cost Averaging.

Okay! That makes sense.

Can I increase/decrease the SIP amount?

Yes, rightly pointed. The procedure to do so is a little complicated. But you can just start a new SIP with the increased amount in the same mutual fund.

So let’s say your SIP is Rs 5000 a month and you want to increase the amount to Rs 8000. Then you can simply start a new SIP with that increased amount of Rs 3000 in the same mutual fund.

Can I stop SIP any time?

 You can stop the SIP any time at your discretion.

SIP is not like Fixed Deposit or Recurring Deposit. And if you stop paying for the SIP then you have two options, either you redeem your money from mutual funds or continue to remain invested in the fund.

That is indeed a very flexible option!

But what is the difference between SIP and mutual funds?

You can invest in mutual funds in two ways: either lump sum or SIP.

So to answer your question, SIP is a method used to invest in mutual funds.

You put in a large amount of money in a mutual fund in one go, when you invest in the lump sum. But that is not the case in SIP, you invest the small amount of money on a regular basis; generally, it is one month.

Read: SIP vs Mutual Fund

Is SIP and RD similar?

How is SIP different from RD then?

 Nice doubt!

SIP has the capability to give a much higher return than RD. But the return you get in SIP depends on the mutual fund you invest in.

There are debt mutual funds which are considered carrying low risk whereas there are equity mutual funds which carry high risk. Unlike SIP, RD has a fixed rate of return and you cannot alter it.

If you are not willing to take more risk then you can always invest in debt mutual fund as it gives more return than RD. And if you are willing to increase your risk appetite, then you can try setting up SIP in higher-risk equity mutual funds.

Read: 7 Reasons Why SIP in Debt Funds Is Better Than Starting RD

Now I get the difference. But I want to invest my money with a long-term perspective.

Is SIP good from a long-term?

Of course! See it this way, why would you want to keep waiting and accumulating the money to invest, when you can start investing with whatever money you save? This enables your money to be always invested.

And there is also one more advantage of long-term investment in SIP, you don’t let the short-term volatility affect your investment.

So is there any pre-determined period in SIP?

Does SIP have lock-in period?

There are two types of mutual funds- open-ended and close-ended mutual funds.

So if you are investing in open-ended mutual funds then there are no lock-in periods for SIP.

But if you are investing in the close-ended mutual fund, then these have lock-in periods. For example, ELSS mutual funds have a lock-in period of 3 years.

Okay! I understood the concept of open-ended and close-ended mutual funds.

But what is ELSS mutual fund?

 ELSS stands for Equity-Linked Savings Scheme.

So if you use SIP to invest in ELSS, then can save tax too.

Section 80C gives an advantage of claiming the tax deduction of Rs 1.5 lakhs if you invest in ELSS mutual fund.

If you want to take the tax benefit then the total of all your SIP in the financial year should be Rs 1.5 Lakhs. If you invest more than Rs 1.5 Lakhs then it won’t give you any additional tax benefit. But, you can still invest more in ELSS if you think it is a good investment. Did I clear your doubt?

Yes, kind of.

Example of SIP in ELSS, please?

Okay. Let’s say you started a SIP with Rs 12,500 per month from April 2017 till March 2018, thus you have made a total investment of Rs 1.5 Lakhs in the financial year 2017-18 in SIP.

Therefore, you will be eligible for a tax benefit of ₹1.5 lakh for that financial year.

Let’s assume that instead of April 2017 you started the SIP from May 2017- one month late.

So the last installment of SIP would be made in April 2018. And since April 2018 is not the part of the financial year 2017-2018, you will be eligible for the tax benefit of only Rs 137500 in that financial year.

Great! This example helped me clear all my doubts.

But other than investing in ELSS, are SIP returns taxable?

Yes. It depends on two factors; first is the type of mutual funds you invest in and the second is when you redeem your investment.

If you have invested in equity mutual funds, then there is a 10% tax on the gains made if you redeem it after a year. But if you redeem before a year, then you will have to pay a tax of 15% on your gains.

In case of debt mutual funds, if you redeem after 3 years of your investment then the gains are taxed at the rate of 20% with indexation benefits.

And if you redeem before 3 years, then tax is calculated based on your income slab.

But isn’t this case of mutual funds?

How is SIP returns taxable?

The tax rate and the redemption period is the same in case of SIP too but the tax in case of SIP is calculated on individual SIP investment. This means that each SIP installments are taxed separately.

Let me explain you this as an example.

Suppose you have started SIP of Rs 1000 per month in an equity mutual fund in January 2018. So in order to not pay the tax, you cannot redeem before 1 year from the investment. You should redeem your investment made in January 2017 after one year, that is, after January 2018, in order to avoid paying tax. Likewise, the installment you paid in February 2017 should be redeemed after February 2018 to avoid paying taxes.

Now the picture is quite clear.

Is there any cost if I redeem the investment before the specified period?

That depends entirely on the type of mutual fund. The cost associated with it is known as exit load. So if some mutual funds specify an exit load for a period, then there will be an exit load on the SIP too.

Most equity funds have an exit load of 1% if redeemed before a year from investment and no exit load if redeemed after a year. And the exit load is calculated upon the value being redeemed.

Let’s say you started an SIP in January 2017 lasting till December 2017 which has an exit load of 1% applicable till a year from investment and no exit load after that.

So if you want to redeem the entire amount in April 2018, then there will be no exit load on the investments made from January 2017 to April 2017. However, the installments made after May 2017, will be applicable for exit load on them.

The concept of SIP is pretty interesting and customizable too!

What is the procedure to start SIP?

How to start SIP online?

Yes, you can always start a SIP online. You can use Groww to start the SIP.

For that, you need to sign up on Groww.in. And all you need to do is upload necessary documents (PAN card, address proof, and bank statements) and then choose a mutual fund you want to start a SIP in.

The mutual fund page in Groww.in will have all the instructions listed that you need to follow.

Thanks a lot! This process will make my work a lot easier.

Always welcome! And you can also check out the article on the 5 Best Funds for SIP. Happy Investing!

Disclaimer: this is a fictional conversation designed to aid understanding of mutual funds. The views expressed here are of the author and do not reflect those of Groww.