Systematic Withdrawal Plans – a low-tax option to generate income

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A systematic withdrawal plan (SWP) is pretty straightforward. You hold an amount in a fund, fix the amount you want to withdraw periodically from this sum, the equivalent number of units are automatically redeemed each time and you get the pay-out.

We had touched upon SWPs in our article last week, where we had discussed post-retirement portfolios. In this article, we’ll look at how an SWP works well in maintaining a regular income flow and how to go about fixing up an SWP. While SWPs are most used by retirees to manage their cashflows, it can also be used by anyone who wants to set up an income stream from their investments. In this article, we are not discussing about SWP as a tool to withdraw from your equity systematically to avoid timing exits. That is another use for SWP.

What is Systematic withdrawal plan?

systematic withdrawal plan

For those who aren’t in the know, a quick explanation of what an SWP is first. If you know, skip this section!

The purpose of an SWP is to ensure that you have a regular flow of income to meet expenses by automatically withdrawing an amount from your investment each month (or any other periodicity).

So, if you have say, Rs 10 lakh in a fund, you can set up an SWP to withdraw Rs 10,000 every month. The fund will redeem units equivalent to this Rs 10,000 and pay the amount out to you.

Why do an SWP? Tax efficiency!

Essentially, the benefits of an SWP are as follows:

  • One, you wind up paying lower tax on the withdrawn amount than you would if the same amount came to you in the form of fixed deposit interest.
  • Two, an SWP is more flexible as it allows you to change the monthly withdrawal to suit your requirements – you can go higher if needed or lower. It is hard to do so in a fixed deposit. It’s also easier to tap into to withdraw a higher amount to meet any sudden large expense.
  • Three, it is a far better substitute to dividend pay-out option of mutual funds. You decide how much you want as income every month and not leave it to the AMC to declare what it wishes to. It is far superior in terms of taxation as we will see further below.  Note that dividends are entirely taxed in your hands effective April 1, 2020.

SWPs can be done from any fund but is best done from a low-volatile asset class – like a debt fund – for income generation.  When you withdraw, you pay tax on the capital gain – i.e., the difference between your purchase price and redemption price. If the holding period is less than 3 years, this capital gain is taxed at your slab rate. For longer holding period, gain is taxed at 20% with indexation benefit.

prime funds

In an SWP, each month a certain number of units are redeemed. For each redemption, there is a cost and a gain. You pay tax only on the gain. The entire withdrawal amount is not taxed. For example, let’s say you hold 1,000 units in fund A, invested at an NAV of Rs 50. Then in the first month, you withdrew Rs 2,000. The NAV then was Rs 52. So you’d redeem 38.46 units. Your cost of these redeemed units is Rs 1923. The gain is just Rs 77, on which you pay tax.

In a fixed deposit, you pay tax on the interest income. So if you receive interest of Rs 2,000 you will have to pay tax on the entire amount. This makes for a huge tax outgo, especially if you are in the higher tax brackets.

The table below takes a fund example and an FD to show the impact of taxes for an SWP run for 1 year and fixed deposit interest. A more detailed break-up is in this excel sheet (refer to sheet Tax Efficiency).

As you can see, the tax paid on SWP is a fraction of that paid on FD interest. In the initial year or two of withdrawal, the gain is lower and the cost component higher as returns are only just starting to come in. In the latter years, the gain component becomes higher. However, once the 3-year period is crossed, indexation benefits kick in. On this front again, the SWP scores as indexation is not available in FD interest.

Bottomline: An SWP is a tax-efficient method to ensure a regular cash flow. It lends itself to greater control and flexibility over the amount of regular income than an FD does.

What should the SWP amount be? Keep it reasonable!

When you want to set up an SWP, the key is the rate of withdrawal. Many of you want your corpus to stay intact or at least not deplete soon.

The withdrawal rate needs to be in line with the approximate return you can get from the debt fund.

If so, the rate of withdrawal should be such that it does not deplete the capital quickly and allows the returns to compound. This ensures that the corpus last longer. Too low a rate will simply leave you short of income.

The withdrawal rate needs to be in line with the approximate return you can get from the debt fund. Typically, short-term and corporate bond funds have delivered average 3-year returns of 7.8% in the past 8-year period. Ultra short and similar funds delivered an average 1-year return of 7.5%. An slightly lower approximation of these can be taken as the withdrawal rate, which works out to 6-7% a year. You can withdraw lesser, but going higher than this rate is not the best idea.

The Excel file linked above (refer sheet Withdrawal Rate) gives an illustration of what your investment value works out to under various rates of withdrawal. It uses a liquid fund as an example, with an assumed investment of Rs 20 lakh in June 2017 and an SWP run from then until June 2020. A quick summary is below. You will see that if you withdraw higher, your corpus is already depleting at the end of year one.

So what if you need a higher monthly sum (and want to keep your corpus intact)? Well, you will either have to scale down your expenses or find other sources of income, or increase the investment amount.

You can use our SWP calculator to check how many years you can run an SWP given your investments and monthly income need.

Bottomline: A reasonable rate of withdrawal is 6-7%. Too high a rate will leave you short of money earlier than you expected and will not allow your investment to grow to support you. Please note that as long as your needs are met, there is no harm in allowing your corpus to deplete over several years, unless you are very keen to leave it behind for your heirs.

Where should you invest? Low volatile only

When you need to make steady withdrawals:

  • One, you cannot take the risk that your fund could see big losses or prolonged underperformance. This takes any equity and equity-oriented fund out of the picture. While your corpus can have equity (as we discussed last week), shift it to debt before you need to access the amount for SWP. Also barred are credit risk funds and any other debt fund that holds low-credit papers.
  • Two, you cannot afford your fund to have return fluctuations. Volatility in returns means that you may wind up redeeming on losses or that your investment is not going grow steady enough for you to comfortably withdraw from.

The table below gives the lowest 1-month return and the average instances that 1-month returns were negative for different categories.

Low volatile debt categories are usually those that earn returns through accrual. These funds are the most suitable for SWP purposes.

  • Liquid funds and ultra short/low duration/ money market funds are the most suited for SWP. The bulk of your SWP portfolio (at least 60-70%) should be in these funds, as the aim is to have steady and safe returns.
  •  The liquid category is one that offers the steadiest returns, especially in short-term periods of 1 year and lower and are low risk as well.
  • Ultra short and similar categories can generate losses in 1/3 month timeframes and therefore better suited for SWP after say, 6 months to 1 year of holding. But as some funds in this category carry credit risk, check to make sure that you’re not inadvertently taking on risk.
  • For other accrual categories such as short duration, banking & PSU debt, or corporate bond, keep investments to a third of the portfolio. These funds can pep up your SWP portfolio returns. But start withdrawing only after completing 2-3 years of holding as these funds need this period for optimum returns. Ensure that you’re not taking credit risk here, either.
  • Dynamic bond funds are best avoided. They switch between duration and accrual and this pushes the category’s volatility higher. Not only that, a wrong interest rate call can wipe out returns built up.
  • Gilt funds are also volatile given that gilt prices fluctuate based on interest rates. However, if you do want to hold gilt funds because of their low credit risk, you will have to allow at least 5-7 years before you can begin withdrawing from them.

You can use both Prime Funds for funds to invest in. You can also refer to Prime Portfolios for retiree portfolios or our regular income portfolios to see how we have added debt funds for SWP.

buy hold sell

What an SWP is not

An SWP does not necessarily mean that your capital will stay intact forever. Based on inflation, your withdrawal and returns you may eventually start drawing down from your capital. Your fund units can go to zero. Maintaining a reasonable withdrawal rate helps push back the time when you draw from the capital and lets your corpus last long enough that you don’t fall short of money. This is unlike an FD, where your principal stays intact.

Make sure you have a diversified income stream with fixed income products such as FD and  Senior Citizens Savings Schemes and use SWP as an add-on.

This article is the conclusion of our series of articles designed to help you manage your portfolio better. You can read the others here:

  1. How to invest for the long term
  2. Portfolio rebalancing
  3. How close to your goal you should move out of equity
  4. When you can hold equity even after reaching your goal
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31 thoughts on “Systematic Withdrawal Plans – a low-tax option to generate income”

  1. Hello Bhavana
    Thanks for such nicely written and a highly enriching article.

    If the prime intention of SWP from a liquid fund is for tax efficiency. Then corpus would have to be in the liquid funds for a min of 3+ years (at-least 5+ years to take full advantage of cost indexation). Wouldn’t returns be far lesser in liquid funds for keeping such a long time?

    How does the SWP from a liquid fund compare with SWP from say a ST Debt or Corporate Bond fund? If I already have my corpus in these funds do I need to transfer them to Liquid funds for SWP? Wouldn’t I loose all the tax advantage that I already gained if I do such transfer?

    Agreed that Liquid funds are less volatile than ST Debt or Corporate Bond funds. But since we are talking of monthly SWPs which are much smaller amounts (ex: 20k or 30k a month) and not lumpsum with drawl, would volatality matter that much compared to the returns and tax advantages that I might be loosing?

    1. Hello sir,

      The tax benefit is not limited to the tax rate alone. When you do an SWP, every redemption has a cost component to it for taxation purposes. You always are taxed on the gain. So you pay tax on a smaller amount than you would on interest earned, even in a period less than 3 years. You do not need to start SWP only after 3 years. Liquid funds work when you start running SWP immediately. In other longer-term debt categories, you can start SWP from the fund directly once you cross the minimum timeframe these funds need to be held. You don’t necessarily need to transfer it to liquid. Volatility matters because it means you could be redeeming at very low returns or losses when the timeframe is short. Holding for more time evens out this volatility and reduces the risk.


      1. Hello Bhavana
        Thanks for explaining it. Yes; the tax is only on the interest component so it should not be a big deal.

  2. Hi Bhavana
    How should a retired person uses SWP w.r.t. following other instruments
    1) Post office monthly income scheme
    2) Senior citizen savings scheme
    3) PM vay vandan yojana
    Should one invest maximum permissible amount in the above schemes and then invest what is left from fixed income corpus in SWP?

  3. Rajan Raghuwanshi

    In SWP when the invested amount will be 0 over a period of time ie the cost Price. Now at the end how will I get the market value difference ? Pls explain.

    1. Hello sir,

      I’m not clear about what you mean…If you keep the withdrawal rate within the fund’s return range, you’re theoretically removing only your gains. So your investment value can remain intact for several years. Yes, over the years, your unit balance will reduce because you are redeeming units. But this will be extremely, extremely gradual and your investment will last you for enough years.


  4. Hello Madam,
    Is it a good strategy to start SWP with a capital into a good liquid fund and reinvest the regular income (from SWP) SIP into selected prime portfolio ? This way, I can have access to emergency funds any time

    1. Hello sir,

      No, that is not a strategy to be followed. An SWP is for redeeming systematically from an investment you have already made with a corpus you have already built, in order to give you cash flows to meet expenses. The fund will be accumulating returns. But you are in reality redeeming a fixed amount from your investment. Depending on the rate of withdrawal, you may eventually be withdrawing from the capital itself and your invested value will come down to zero. This is why we say that the withdrawal/redemption rate should be within range of the fund return. An SWP is not an FD where you get interest on capital, and invest the interest earned.

      So if you follow the strategy you have noted, you will just be redeeming every month from your investment in fund A and investing it in Fund B. There is no benefit at all. Simply build a separate emergency portfolio. If this value grows into a sum that’s much higher than what you need for emergency, pull out the excess and invest this towards other goals.


      1. Dear Bhavana,
        Thank you for writing this article & explaining SWP in such a simple manner. However, I am slightly confused after reading your reply & on tax comparison between SWP & FD.

        1. I don’t understand how logical is the tax comparison between SWP & FD as in SWP we are withdrawing principal/invested amt + some gains/returns, so after a while our principal/invested amount will become 0, whereas, in FD we will get the full principal/invested amount back once FD term is over. However, I agree in this process we pay more taxes in FD but at last we are getting the invested/principal amount whereas in SWP it will become 0.

        2. Regarding the reply to the question by Maxim. My query is that, if we have a lumpsum amount that we want to invest in MF via SIP (equity MF mostly, don’t want to invest lumpsum as there is a risk of entering at top or high price) then keeping the money in the bank account we will get very less/minimal interest whereas if we invest that lumpsum amount in Liquid funds/ultra short/low duration/money market funds and then after a month or 2 start a SWP to invest the amount in some other MF then we will be getting better interest on the initial lumpsum invested amount and our objective to do SIP in some other MF will also be achieved.

        Waiting for your reply. Thanks !

        1. Hello sir,

          1. This is where the withdrawal rate comes in. If you keep the rate within reason, your investment will last a very long time. This is because your investment is growing faster or at least in line with what you’re redeeming. So in a sense, you are pulling out your return and not your capital. Yes, it will eventually go down to zero, but this will happen over a very, very long time. In an FD, yes, your capital will be intact. However, do remember the interest income may not always be sufficient since rates will change. At that point, you may have to dip into your capital itself. In a debt fund, on SWP, the tax outgo is very low. In an FD, you will be paying a much higher tax, which will count as outflow for you.
          2. If you have a lumpsum to invest, then use an STP. Invest in the liquid fund of the AMC where you want to hold the equity fund. Then set up an STP from the liquid to the equity over a period of months – this will depend on the market and your investment size, but it can be anywhere between 6-12 months. This is different from the previous comment – the question there was to set up an SWP, then invest this amount into equity, while still maintaining some balance in the debt fund for emergency purposes. In an STP, your aim is to switch the entire investment over a period of time. In the query, it was to maintain a basic corpus and use income from here to make other investments. This is avoidable, as it leads to unnecessary complexities without offering real benefits.


          1. Dear Bhavana,

            Thanks you so much for your detailed explanation. Appreciate your effort.

            Sorry, I missed the emergency fund part from the question 🙁
            Yes, STP makes more sense than SWP. Do you have any detailed article on STP and its usage to understand it better or STP is just used for parking lumpsum amount temporarily so that we can eventually invest the amount in phased manner to some other fund.

          2. Hello sir,

            Nope, nothing written as yet on STPs. But STPs are pretty much what you just said. All it does is to transfer investment in Fund A to Fund B in a phased manner. STPs are mostly used when you have lumpsums. In some cases, it can come in handy when you’re rejigging your portfolio and moving from a debt fund you hold to an equity fund and both funds happen to be from the same AMC.


  5. Madam,
    Nice article !
    Is there any advantage to start SWP in the same fund house where we maintain the equity funds to which the SWP income is invested ?

  6. orczeikwiyvnbhhkcv

    Hello ma’am
    My mother wants to invest around 10 lakhs, so should I go with SWP route with IDFC short bond or Kotak Franklin debt fund as she needs quarterly income of sorts, or go with fixed deposit with HDFC/Bajaj (she doesn’t have any income so tax is not something to worry about)

  7. Kishan Magatapalli

    Hello Madam,
    In the Excel file that is attached, we can see that the corpus has decreased by 31000 in the SWP method. So at the end of the year the total would be
    1969143 + 135000 – 1097 = 2103046
    And in the FD method at the end of one year
    2000000 + 135000 – 40500 = 2094500

    So the difference at the end of one year between the two methods is Rs 8546. I feel that is what the metric of advantage of SWP method and not what is getting depicted on the tax front. This is probably since the rate of withdrawal is higher than the CAGR of the fund. Am I doing a wrong calculation? Please correct me if I am wrong.

    Secondly I feel that regular income from any source will generally be required by Senior citizens. In the average middle class, senior citizens will very rarely be in the 30% bracket. Maximum would be in the 0% or 10% bracket generally. If they are in 0% bracket, wont the FD method be very advantageous as compared to the SWP method, since in the SWP method the investor is left with 2104143 in the year end, while in the FD route the total corpus would be 2135000?

    Please correct me if I am wrong in the calculation somewhere


    1. Bhavana Acharya

      Hello sir,

      Let me clarify a little bit:

      1. No, the value of the fund at the end of year 1, after withdrawal is 19,69,413. This is after withdrawing Rs 135,000 in total.
      2. The capital in the FD will be intact, yet. This is mentioned in the last point in the article. The reason the fund’s value has dropped from the initial investment is because the withdrawal rate is slightly higher than the return of the fund in that year. But over the next years, the return will compound and the investment value will improve. You can see this in the withdrawal rate sheet – see the 6% withdrawal rate columns, where the value depletes first and then comes back up. This is one of the reasons we need to keep a reasonable withdrawal rate to allow returns to accrue.
      3. The tax will be lower than FD even at lower tax brackets, simply because the amount of money on which you are paying tax is significantly lower than in the FD. If you’re not paying tax because your income level is not that high, then you wouldn’t be on the SWP either. The SWP still gives you flexibility in withdrawals.
      4. You can well live on interest income alone if you wish to, as we talked about in last week’s article. Adding debt funds with SWP is useful for tax-efficiency, diversification, and better returns for. As mentioned in the last section of the article, it is essential that you have a combination of different instruments.

      Hope this helps.


  8. But if you hold an arbitrage fund for one year and then start an SWP, the gains will be taxed at only 10% (equity taxation). It is not risky if held for more than one year.

    1. Bhavana Acharya

      Hello sir,

      On the returns front, ultra short/low duration are much better than arbitrage. Next, once you cross 3 years, the indexation benefits can reduce the taxation quite significantly. So if at all arbitrage has a benefit, it is for a very brief period. It just safer and easier to use pure debt funds instead of an equity-based product, even if low risk.


  9. Kannan Narayanan

    Dear Madam, Excellent article with clear examples. I am very much satisfied as a PrimeInvestor subscriber. Thank you to the whole team.

    1. Bhavana Acharya

      Hello sir,

      No, it is best to go with liquid funds. Arbitrage is higher volatile than liquid, and have instances where 1 month returns are negative. And where arbitrage opportunities are not available or in markets like the one we are in now, it can get difficult for these funds. In terms of returns, ultrashort/low duration etc beat them.


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