Investing in a mutual fund scheme is different from investing in a stock or bond portfolio. Sometimes the value of a fund can drop if it doesn’t beat the benchmark or if you simply don’t want to accept the risk. In such situations, you can choose an alternative of switching i.e. investing in a new fund. For this, however, you will need to liquidate your current mutual fund’s holdings before buying units of a new scheme.

There are many situations when switching may be an apt decision. Such as:

• You want to manage your investment and switch from regular to direct.
• You are approaching your goal and wish to secure your wealth and switch from equity to debt or vice versa
• The fund you have invested in is underperforming and you want to invest in a better fund.
• You want to move from growth to dividend or vice versa.

How to switch from one scheme to another

Whatever the reason, you must follow the same process for switching your mutual fund investments.

Switching Within Same Mutual Fund House  

Switching within the same mutual fund house requires a switch form. List the mutual fund scheme units to be transferred in that switching form. Switch-in and switch-out need low investment. You can complete the whole process online on the official website of the fund house. Consider exit load and capital gains tax while switching. Switching within the same fund house has no settlement issues. 

Switching To Different Mutual Fund Schemes

You can redeem your existing mutual fund investment and buy another when you move schemes. Redeem the initial fund and wait for the funds to arrive in your bank account. Consider taxes and exit loads when redeeming assets. After obtaining credits from the first mutual fund, complete the Mutual Fund Scheme application to reinvest the proceeds.

Factors to consider before switching

Switching your mutual fund investment has some consequences. You should consider the following factors before switching.

1. Exit load: Mutual funds contain an exit load, which is a penalty for withdrawing funds before a certain period, which is typically 1 year for most mutual funds. If you change your assets within a year, you must pay an exit load of around 1% to the fund company.
2. Lock-in period: Equity Linked Saving Schemes (ELSS) come with a lock-in period of three years. This means you cannot withdraw your investments before three years. So, you cannot switch your investments before the completion of three years. However, you can stop investing in the fund.
3. Tax: Switching involves selling your investment in one fund and buying units of another fund. If you have made a profit on your investment, it will be taxable at the applicable rate.
4. Portfolio management: Switching from a regular to a direct plan requires you to manage your portfolio. You will have to track and monitor your portfolio on your own. Switching to a direct plan also requires you to have market knowledge that will help manage your portfolio.

Tax Implications 

When you switch between mutual funds, your gains are taxable. If you exit an equity fund, your gains will be taxed in the same way that they are in equities. If you switch within a year, you will be subject to short-term capital gains tax. Long-term capital gains tax would be charged on gains exceeding Rs 1.25 lakh if you switch after a year from the investment date.

Budget 2023 removed indexation benefits from debt funds when computing long-term capital gains (LTCG). These schemes are now taxed at appropriate slab rates. 

Furthermore, indexation benefit is not available on LTCG in gold mutual funds, hybrid mutual funds, international equity mutual funds, or funds of funds.

Also Read: Is Your Mutual fund KYC Valid? Simple Steps to Check KYC Status

Should you switch?

Switching mutual funds can be a strategic decision to optimize investment returns or for realigning portfolios according to changing financial objectives. However, investors must carefully consider factors like exit loads, lock-in periods and tax implications, especially in the light of recent regulatory changes impacting indexation benefits and taxation rules for specified mutual funds.

Being aware of the above considerations will help you navigate the switching process effectively, and may ultimately enhance your overall investment outcomes while minimizing potential drawbacks.

Disclaimer: The above content is for informational purposes only. Please consult a SEBI-registered investor advisor before investing in mutual funds.