Growth Option
Growth Option Mutual Funds will not yield any short term income. Money invested will continue to be invested until redeemed i.e. this will give capital appreciation and but not regular (e.g. Monthly) income. For example, if you purchased 1,000 units of a mutual fund at Rs. 11 and sold it a year later at Rs. 15, this difference of Rs. 4,000 (i.e. Rs. 15 – 11 = Rs. 4 * 1,000 units = Rs. 4,000) is your capital gain and returns on investment.
This type of investment is more suited for long term investing in equity mutual funds. Equity mutual funds are prone to short term risk, but in the long term they typically give good returns. This option benefits from the power of compounding since not only is the principal invested, but also the notional profit.
Since the fund does not pay out any dividends the NAV is much higher than that of the dividend option for the same fund. This difference is due to the payment of dividends and not due to a substantial variation in the fund performance.
Dividend Option
Dividend Option Mutual Funds will yield payout in the form of dividend. It is ideal for short term investments, especially in debt. Debt mutual funds with dividend options are a good option for senior citizens who require a steady income flow and not only capital appreciation.
This option will give the investor the benefit of moderate capital appreciation along with dividend returns over the period of holding. Due to the regular payouts, power of compounding is not as efficient as compared to that of the growth option. It is important to keep in mind that dividends are not guaranteed, and also that sometimes no dividend is declared throughout the year.
Dividend Reinvestment Option
This option tries to make the best of both worlds, in the form of declaring dividends to investors, but not issuing the dividends in the form of cash but re-investing the dividends into the same mutual fund for additional units. One faces the risk of having to pay an entry load each time a dividend is reinvested, and also if there is any lock in (as in the case of an ELSS), the new units will be subject to a further 3 year lock in. The growth option is a better bet than the dividend reinvestment option.
Summary
- Growth option will not pay out any interim dividends, and purely gives capital gains
- Growth is best for long term, and for equity investments
- Dividend option will give irregular payouts, and these are tax free in the hands of the investor
- Dividend options are best for short term debt funds