MF investments: Should you choose dividend reinvestment or dividend payout?

Meghana is an architect and has been practising as an independent consultant for the past 10 years. She is thinking of investing in mutual funds to build her retirement corpus. She is new to mutual funds and has limited knowledge about finance. Meghana has chosen three equity mutual funds, given her long investment horizon, but is wondering whether she should choose the growth, dividend reinvestment or dividend payout option. She thinks that she would not be paid dividend if she chooses the dividend reinvestment option, while the payout option would allow her to receive dividends in the same manner as equity shares. Which of these options should she go for and why?


Meghana must start by understanding that the investment portfolio that will be handled by the fund manager will be the same, irrespective of which option she chooses. So her choice will not modify the investment performance. The choices are accounting entries that the fund makes to suit the needs of investors who may require dividend payouts. Therefore, if she does not need dividends, she should choose the growth option and allow her money to grow.

Under the dividend payout option, the mutual fund issues dividends to unit holders, which are transfered to their bank accounts. This means that part of the gains realised by the fund is paid out to investors. The NAV of the fund falls whenever there is a payout. Under the dividend reinvestment option, the dividend is declared, but not physically paid out. Instead, it is reinvested back into the scheme. In this case, the additional units will be issued to Meghana, which will be equivalent to the amount of dividend paid out at the prevailing NAV. This is quite similar to the growth option, since Meghna will accumulate more units over time, at a lower NAV, which would be equivalent to the units invested at a higher NAV under the growth option.

Unless Meghana genuinely needs periodic cash flows, it will be best for her to avoid the payout option and choose growth or reinvestment instead. She should remember that her fund will do just as well, whether it pays out a dividend or not.
(Content courtesy: Centre for Investment Education and Learning ( CIEL). Contributions by Girija Gadre, Arti Bhargava and Labdhi Mehta.)