Dividend Yield Mutual Funds: A Complete Guide

What Are Dividend Yield Mutual Funds?

Dividend yield funds are mutual funds based on equity, which mostly invest in the shares of companies that have a history of paying high dividends. These mutual funds focus on stocks that have a high dividend yield, which is determined by dividing the dividend per share by the market price of the stock.

A major portion of the portfolio is typically allocated to companies with relatively high dividend yields and stable financial performance. Their performance is based on stock selection, the earnings of dividends, portfolio diversification and fund management strategy.

Types of Dividend Mutual Funds

Mutual funds offering dividend or IDCW payouts can vary based on their asset allocation, investment strategy, and risk profile.

How Do Dividend Mutual Funds Work?

The following factors explain the channelised working of mutual funds.

• Investment in Dividend-Paying Companies: The mutual funds will be paid depending on the shares and the company's capacity to declare dividends. The profit adds to the total returns of the fund and its overall investment impact.
• Dividend Income Generation: Dividend income accumulated by the fund can be invested back in the portfolio or will be adjusted as part of Net Asset Value.
• Capital Appreciation: The conservative investors can enjoy capital appreciation along with dividend income. This happens when the underlying stocks continue to grow over a period of time.
• Portfolio Diversification: It's vital for dividend mutual funds to channelise their investment across various sources and lower the risk.

Key Features of Dividend Mutual Funds

Dividend mutual funds are suitable for investors looking for low risk.

• Stable Income: These funds provide stable income through dividend-paying investments.
• Portfolio changes: These funds invest in a wide range of dividend-paying stocks.
• Fund Management: These funds are run by professionals who observe market changes closely.
• Growth and IDCW Options: Investors can choose between the Growth and the IDCW options.

Understanding Payment for Mutual Fund Dividends

Payment of mutual fund dividends happens through the profits generated by interest or capital gain.

These are determined by fund managers through the earnings of the fund, its performance, the state of the market, and the number of units owned by the investors.

Dividends are normally announced on a monthly, quarterly, or annual basis. The dividend is shared equally among the investors according to the number of units they hold.

As an example, when a fund pays a dividend of ₹3 per unit, and an investor owns 800 units, the investor gets a dividend of ₹2,400. In most cases, the amount of dividends distributed is modified based on the NAV of the fund post distribution.

Taxation Rules of Dividend Yield Mutual Funds

Income generated from dividend yield mutual funds is added to the total taxable income of the investor and is subject to the applicable income tax slab. Fund houses may deduct 10% Tax Deducted at Source (TDS), provided that the dividend payouts are more than ₹10,000 in a financial year under Section 194K of the Income Tax Act.

In dividend yield mutual funds, capital gains tax depends on the holding period of the investment. Short-term capital gains on investment held not exceeding 12 months are taxed at 20% (applicable from July 23, 2024)  and long-term capital gains exceeding ₹1.25 lakh after 1 year are taxed at 12.5% without indexation.