`Our Focus Is Alumina And Alumina Chemicals '

A company usually skips dividends during bad times. But have you ever come across one that has earned 17.48 per cent income on its capital and has not declared any dividend? Well, UTI has done exactly that with its Unit-Linked Insurance Plan (ULIP). On the face of it, this would be an unkind cut. Actually, it's a praiseworthy move.

Let us begin with the UTI Bond Fund, launched on May 4 last year, a pure-growth, open-ended, 100-per cent debt-based scheme. All MFs (mutual funds) normally offer two options _ dividend-paying and pure-growth. UBF has dropped the dividend option altogether.

And that's not such a bad thing. The investor at large wrongly looks forward to regular dividends, refusing even a cursory glance at growth. He doesn't realise that he can write his own dividend cheques by opting for partial withdrawals to the extent of the growth achieved by the scheme. It has been necessary to force him learn that growth gives more advantages and privileges than dividend.

 

Growth is taxable as long-term capital gains after a holding period of only one year with all associated concessions. There is no tax payable on the amount not withdrawn. On the other hand, the amount withdrawn is taxable at the concessional rate of 20 per cent (plus surcharge) after gaining the benefit of the cost inflation index. Even this small tax can be saved under section 54EA and EB. Moreover, there is no tax deducted at source (TDS) irrespective of the amount of money withdrawn.

At the launch of UBF, the dividend was covered under section 80L with an aggregate ceiling of Rs 15,000. FA99 has changed the structure of tax on dividends: Now all dividends from

all MF schemes are tax-free. Good? Not really.

As in the case of tax-free dividends on shares, there is a dividend tax of 11 per cent (inclusive of surcharge) on dividends of close-ended and debt-based MF schemes. This surrogate tax cannot be treated as part of the expenses of the MF. Prior to FA99, the investor had the opportunity of saving tax on this dividend income under the umbrella of section 80L or by making an appropriate contribution to section 88 or by setting the TDS off against

his tax payable. These facilities are now not available. Even those with income below the minimum tax threshold will be paying 11-per cent tax indirectly. The MFs would have declared a higher dividend if this special TDS did not exist. Obviously, the exchequer will collect more tax than before by applying this `no-dividend-tax' ruse.

The ULIP dividend was taxable on an accrual basis. Now it will be tax-free. However, UTI will have to pay dividend tax at 11 per cent directly on the dividend paid. Therefore, if UTI wants to pay a dividend of 13.11 in spite of the current fall in the market rate, it will end up paying 11.81 per cent. It has managed to achieve exactly this by avoiding the dividend tax. Last year, the sale and repurchase prices were Rs 12.70 and Rs 12.30 respectively. Having earned 17.48 per cent income, UTI has increased the prices to Rs 14.20 and Rs 13.80 respectively, an increase of about 11.81 per cent. A shrewd move.

UTI has tried to extend all possible benefits to investors. On the other hand, some MFs have been advising unit holders to shift horizontally from the growth option to the dividend option, since it has become tax-free! This is a good strategy for the open-ended, equity-based schemes where there is no dividend tax, but not for the debt schemes. To compound the folly, they have advised holders to opt for a dividend reinvestment option. Those who did not have this option in place have taken the trouble to put it in. This would mean paying compounded 11-per cent dividend tax. Evidently some managements haven't been able to distinguish between tax-free and after-tax parameters.

In July 1996, UTI had taken another shrewd decision. It paid Rs 2 as dividend and issued units worth Rs 1.35 as bonus. At that juncture, the dividend was taxable (now it is tax-free) and the bonus was not (and still isn't). With the two adding up to Rs 3.35, UTI actually paid out 33.50 per cent. It is evident that the bonus is ipso facto dividend.

The bonus enjoys another advantage. There was a TDS on dividends from UTI/ MFs at 15 per cent for individuals and HUFs, provided the dividend in a scheme exceeded Rs 10,000. Quite a number of unit holders went out of the TDS net because income paid by way of bonus was outside its purview. I wish UTI had paid the entire Rs 3.35 by way of bonus. Those who needed cash could repurchase the bonus units incurring a short-term capital gain, which attracts the same rate as the normal dividend.

There is a better strategy: Keep the new bonus units and encash an equal number of old units. The gain on the sale of bonus units within one year of their acquisition attracts normal tax rates and the holding period of at least one year will attract the 20-per cent flat rate but not the indexation. The cost of acquisition of bonus units is required to be taken as nil. The sale of old units bestow all the privileges!

I am sure that UTI's actions will serve as a template for similar moves from the other MFs _ income through `capital gains' or through bonuses.

If I could make a suggestion though: At its redemption, ULIP takes away 40 paise by holding the repurchase price lower than the sale price. After all, the investor in this `systematic investment plan' is a captive one. At the end of its term, he cannot continue with the plan, even if he wants to do so. In that case, is UTI justified is levying this penalty of 40 paise? I do not mind this levy on premature withdrawals but it is quite cruel to the unit holders who stay with UTI through the entire term. I hope UTI takes corrective action in due course.

The best bet

Contributions to ULIP attract the tax rebate within the overall ceiling of Rs 60,000, the most efficient edge to axe the tax. Over and above this, ULIP covers life upto the target amount and also covers accidents upto certain lim