Thursday, August 28, 2014

Bonus Stripping

I understand from the media that the mutual fund industry body AMFI (Association of mutual funds of India) last week communicated to all its members refraining against prior information regarding Bonus declaration, indirectly turning the spotlight on JM Financial’s Arbitrage Fund.  It is widely believed that this scheme has mobilized over Rs 5000 Crore in the month of July 2014 under its bonus plan.

Bonus/Dividend stripping provide investors opportunity to set off their short capital gain tax otherwise, ends up paying tax @ the marginal rate. This involves buying the mutual fund units three months prior to the record date of the dividend/bonus declaration. Upon declaration of the same, NAV (Net Asset Value) of the scheme falls correspondingly leading to a notional capital loss. Unlike dividend plan, Bonus option does not attract dividend distribution tax making it more lucrative.

In the past, one of the larger fund houses too followed this path, declared a stupendous 86% dividend in their LIQUID FUND during the year 2007. I suspect, even the best performing equity fund in their history would have done this. Again in the year 2009, the same fund house declared 30% dividend in their Liquid scheme. Last year, one of the Income Funds declared bonus and raised a huge sum. It is an open secret that dividend/bonus stripping are done to appease certain class of investors for their tax planning, which is against the spirit of the law.

Just to remind readers, as per the mutual fund structure, the role of a Trustee is to protect the interests of the unit holders and ensure full compliance with regulatory guidelines in letter and spirit.

I fail to understand why media, AMFI and all the stake holders were oblivious to such incidents in the past. Irrespective of the stature of the fund house, these acts deserve strong condemnation. It would be an ethical gesture, if Fund houses voluntarily withdraw bonus option in their schemes to avoid such recurrences in future.

Mutual Funds have a bigger role in the financial inclusion. As we stand, 70% of the industry aum (assets under management) is controlled by the top 5 cities.

Happy investing!

Disclaimer: Views are personal.No content on this blog should be construed to be investment advice. You should consult a qualified financial advisor prior to making any actual investment or trading decisions. All information is a point of view, and is for educational and informational use only. The author accepts no liability for any interpretation of articles or comments on this blog being used for actual investments

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