People often don't know about the hidden commissions that they pay while investing in Mutual Funds. While the investors mostly invest in 'Regular' plans which come with commissions, the direct plans of Mutual Funds have started gaining popularity where investors don't pay any commission to distributors.
But, there is more to it.
Why do regular plans even exist?
Are there any pitfalls to investing in direct plans?
What should you keep in mind while investing in Direct Plans?
Listen to this podcast to get answers to all these questions.
Are there any burning questions giving you sleepless nights? Write to us: firstname.lastname@example.org
Disclaimer: This podcast is for educational purposes only. Anything said should not be construed as advice.
Welcome friends to the third episode of Money Ki Baat.
I am your host Anmol Gupta and today we are going to talk about a very trending topic which is Direct vs Regular Mutual Funds.
So I think most of you would have some idea about how a product reaches to you after it is manufactured.
For example, you want to purchase a Philips light bulb. So you'll not go to the factory directly and purchase the bulb. You'll go to a nearby retail shop from where you can purchase the bulb.The retailer has bought that bulb from a wholesaler,the wholesaler bought it from a distributorand the distributor had finally bought it from the Philips manufacturing company.
So you see this is a long chain and in this chain, everyone earns commission on selling this bulb. By selling this bulb, the distributor earns commission, the wholesaler earns commission and the retailer also earns commission.
For example, the manufacturing company might have sold that bulb to the wholesaler at Rs.10, the distributor sold it to the wholesaler at Rs.20, the wholesaler sold it to the retailer at Rs.30 and the retailer finally sold that bulb to you at Rs.50.
So in the same way, in mutual funds, there are manufacturers and a mutual fund distributor act as a distributor, wholesaler and a retailer.
So manufacturers are companies like ICICI Prudential Mutual Fund, HDFC Mutual Fund, SBI Mutual Fund whose job is to create products and these products are called Mutual Fund schemes or Mutual Fund Plan in which we ultimately invest our money.
Now, whenever you purchase these schemes, you normally purchase it through a distributor. And, naturally the distributor earns commission for selling that scheme to you.
Now the interesting part about Mutual Funds is that you can purchase these schemes directly from a manufacturer too.
So, the mutual fund is not like the bulb, that you have to purchase it through a distributor, wholesaler or a retailer.
Before 2013, if you purchased a mutual fund you only had the option of purchasing it through a distributor.
But after 2013, it was made compulsory for all the mutual fund schemes, that if any investor wants to buy a scheme directly from the company, they can. Any investor can buy a mutual fund scheme directly from the company without involving a distributor.
So whenever you purchase a scheme directly from the mutual fund company, you don't pay commission to any distributor. Because no distributor is involved in it.
This means that you get the scheme at a reasonable price
So if you check any scheme online, you'll find two variants of every scheme - One variant is Regular and the other one is Direct.
So if you buy the scheme which has Regular Plan written in its name, that means you are buying it through a distributor. If you buy the scheme which has Direct Plan written in its name, that means that you are purchasing it directly from the Mutual Fund company without incurring any kind of commission.
Lot of times, we get confused that when we are buying any scheme online, we are investing in a direct plan only, but that's wrong.
There are online distributors too, as long as your scheme name has "Regular" written in it, or if your scheme does not have "Direct" written in it explicitly, that means you are investing in a regular plan, you are investing through a distributor.
So you'll be sure about investing in a direct plan only when your scheme name explicitly contains the word "Direct Plan". Now the next question that you might have is that, if a regular plan charges you commission and you also have the option of purchasing the scheme directly from the mutual fund company, then, why would you invest in regular plans?
Before, investing in mutual funds used to be a cumbersome process. Lot of paperwork used to be involved and the distributors used to easily complete those paperwork for you. Now all the schemes are available online.You can invest in any scheme directly through a mutual fund company, without incurring any kind of commission and without any kind of paperwork.
Now the other thing a mutual fund distributor can help you with, is selecting a mutual fund scheme.
There are thousands of schemes available in the market. It becomes difficult for you to choose the scheme you should invest in.
But here comes another issue with the distributors. Every scheme pays commission to the distributors and that commission varies from scheme to scheme. Few schemes charge you more commission while the others charge less.
Typically, the range of the commission varies between 0.2% and 1.5%. This means, if you are investing Rs.100 through a distributor, then your distributor may get a commission of Rs.1.5. So the distributors have a tendency of selling you the scheme which gives them more commission.
And it's pretty natural, they also want to do more business. So this makes the recommendations of the distributors biased. They tend to sell you the schemes which are giving them more commission, instead of schemes which are right for your financial goals and your risk taking appetite.
And frankly speaking, this is the main problem that I have with distributor model.
So what is the solution to this problem?
If you have to invest in direct mutual fund and you also want an assistance to select which scheme you should invest in, so for this, you should hire SEBI registered investment advisers like 7Prosper, who charges you a flat fee for advisory and they don't make any kind of commission on selling you the mutual fund schemes.
Also legally, SEBI registered advisers are not allowed to charge any commission on selling you a scheme. So since SEBI registered investment advisers cannot make any kind of commission on selling you the schemes, their recommendations are going to be unbiased. So unbiased recommendation is a very important reason behind why we recommend you to prefer SEBI registered investment adviser over a mutual fund distributor.
You can consider investment advisers as financial doctors, whose job is to understand your financial situation and give you the correct prescription, to recommend you the right investments or financial plan. And just like how doctors charge a consultation fee, investment advisers also charge a consultation fee.
And ideally when any doctor prescribes you a medicine, they don't get any commission for prescribing that medicine. In the same way, ideally whenever an investment adviser recommends you any scheme or any other investment product, they don't get any commission for recommending that product.
And I am saying ideally because as you know, world is not a perfect place. You must have seen doctors too enjoy several benefits and compensations for prescribing a particular brand of medicines. In the same way, investment advisers too have various types of business models. So investment advisers can also make commission.
So I'll take this up in some another episode where I'll tell you how an investment adviser can earn commission.
Till then do subscribe to stay updated with the new episodes.