Basics of Systematic Transfer Plan

4 min read

Considering the risks associated with the mutual fund sector, you should be always extra careful of your investment decisions. 

For instance, there is a time when your mutual fund is not performing up to the mark; what would you do in such a case? 

The solution to this problem is the Systematic Transfer Plan (STP). 

It is a process that allows investors to transfer units/ switch from one scheme to another mutual scheme of the same fund house.

To completely understand systematic transfer plan (STP), let’s first try and deconstruct a popular way to invest in mutual funds known as Systematic Investment Plan (SIP)

SIPs allow investors a disciplined approach to investing, where they can invest a regular amount every month. SIPs are considered the best way to handle volatility in investments.

For instance, suppose you intend to make a monthly investment of INR 1000 and decide to take the SIP route, then, every month this amount will be debited from your account and invested in the funds that you have selected at the inception.

STP, on the other hand, is a variant of SIP that allows investors to gradually transfer assets from one scheme into another scheme within the same asset management company.

Consider one more scenario where the investor is in possession of a lump sum amount to invest, registering a SIP is difficult. Instead, the investor is left with only one choice – To invest the lump sum amount in a mutual fund or an ETF and wait for them to deliver superior returns.

More importantly, a lump sum investment in equity and debt funds can be highly risky. So, asset management companies allow investors to systematically transfer a fixed sum from one fund to another through an STP.  It can be explained as akin to a series of pre scheduled switch transactions.

These things must have really excited you to know more about STP, in our today’s post we have covered you with all you need to know before investing in one.

What is STP?

STP stands for Systematic Transfer Plan. STP is a facility that gives the unit holders an opportunity to transfer a fixed sum at regular intervals from one scheme to another. It can be explained as akin to a series of pre scheduled switch transactions. The facility helps investors to rebalance their investment portfolio by switching seamlessly between different asset classes. They can be used to reduce volatility and help realize financial goals.

Suppose an investor earns a lump sum through the sale of a property. The investor can choose to invest the entire amount in a low-risk money market or a liquid fund and then systematically transfer a fixed sum into an equity fund, ensuring that he gains slightly higher returns than bank deposits. By regularly transferring money into an equity fund, the investor can stop worrying about the market level. 

Let’s imagine, if the investor earns a lump sum of INR 5,00,000, and invests that in a liquid fund, they can then arrange to transfer, each month an amount of INR 25,000 into an equity fund so that over the next 20 months the investor makes the best of the volatility and manages to reduce the cost of acquisition. Therefore, these plans are suitable for investors who have lump sum money and wish to invest in equity funds but are wary of timing the markets.

Types of Systematic Transfer Plans

Fixed STP: Under this, investors take out a fixed sum from one investment fund and transfer it to another fund.

Capital Appreciation STP: Under this, the investors take out the profit that they have made on one investment and invests in another investment fund.

Flexi STP: In Flexi STP, investors can choose to transfer a variable amount. The fixed amount would be the minimum amount and the variable amount depends on the volatility of the market.

How to Start STP?

There are three basic steps to do an STP:

  • On the basis of your risk appetite and financial goals, select the amount to be systematically transferred from the source fund to the target fund.
  • Choose the time frame within which the investor intends to systematically transfer the amount from source fund to target fund.
  • The last step involves setting up an automatic transfer by selecting source mutual fund and target mutual fund.

What to Remember while Setting STP?

  • STP happens between the mutual funds of the same fund house (AMC).
  • STP is executed as redemption in one fund and purchase in another.
  • Choose source funds that preferably have low or no exit load and expense ratio.
  • Choose destination funds according to your investment goals.

What is the benefit of STP?

Rupee Cost Averaging: STP averages out the cost of investment – more units at a lower price and fewer units at a higher net asset value (NAV). As the money transfers from one fund to another, the fund keeps purchasing additional units systematically, benefiting you from rupee cost averaging i.e., the per-unit cost will reduce gradually.

Managing Risks: These can also be used to move from a risky asset class to a less risky asset class. For example, suppose an investor initiates a SIP for 30 years into an equity fund for retirement purposes. As the investor approaches his retirement, he can start the STP to prevent a reduction in the value of the fund. The investor can simply instruct the fund house to transfer a defined amount from the equity fund to a debt fund.

Scope for higher returns: Opting for an STP can translate into higher returns because they allow you to initially invest the lump sum into a debt fund like a liquid fund. These liquid funds generally yield higher returns than leaving funds in the savings or current accounts.

Optimal Balance: The best STPs aim to create a portfolio that has an optimal balance between the equity and debt instruments. It also aims to provide an optimal combination of risks and returns. For risk-averse investors, the transfer of funds is mainly to sovereign backed debt securities, while equity instruments are meant for investors with a willingness to take some risk.

Conversion to Direct Funds: Systematic transfer plan can also be used for switching from regular mutual funds to direct mutual funds and thus avoid the higher expense ratios charged on regular mutual funds.

Disadvantages of STP

Exit Load: It is applicable when an investor switches from one scheme to the other, especially when the units of the source scheme are redeemed in a short time frame.

Taxation: Short-term capital gain (STCG) tax is applicable on STP. This happens because units are essentially redeemed from one scheme and are invested in another scheme. The consideration of a switch as redemption prompts this capital gains tax.

Limited fund choice: The switch from one scheme to another is allowed only for schemes managed by the same fund house. Suppose you want to switch debt fund of X fund house, you can only transfer to an equity fund of the same fund house, i.e. X.

STP vs SIP: Which one is better to Invest the Lump Sum?

STP indeed works like a SIP mechanism where a fixed amount gets invested in a particular fund. However, if you have a lump sum amount to invest then it is better to invest it through STP. 

This is because in SIP the amount will be left idle in your bank account or may earn some interest which is significantly lower than what it may earn on a low-risk liquid or ultra short term debt fund. So, it would be better to invest the lump sum in a low-risk debt fund and then schedule an STP to equity funds of your choice.

Disclaimer: Any Advice or information in the post is general advice for education purpose only and is not responsible for generating any trading profits for anyone, please do not trade or invest based solely on this information.

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