All mutual fund schemes offer two plan- Regular and Direct Plans. In Regular plan investors invest through the intermediary and commission paid (distribution cost) to Brokers/Intermediary by the AMC to facilitate the transaction, which is charged daily as a small part in the expense ratio from the fund NAV (Net asset value)
But in Direct plan, you can invest without involvement of an intermediary, there is no any embedded commission involved in the expense ratio, you save that commission which ultimately pass on to investors in the form of lower expense ratio which leads to higher returns of the same fund.
For example: Aditya Birla SunLife focused equity fund, in Regular plan there is an expense ratio of 2.36% while in the same scheme, with Direct plan you need to pay only 1.36% so, there is a difference of 1.10%. which is paid to distributors as commission. It may not seem a lot, but have your ever thought that how much it could impact on your portfolio in the long run?
I have done this math, for you:
Let’s assume, if you invest 10,000/- SIP in the above-mentioned scheme (Aditya Birla SunLife Focused equity fund) in Both – Regular and Direct plans. Regular Plan charge expense ratio 2.36% while in same Direct plans expense ratio would be 1.36%.
At the end of 25th year Regular Plans could fetch you Rs. 1,87,75,052 (if we assume 15% CAGR returns). However, in the same scheme if we invest in Direct Plans, total corpus with 15% CAGR returns could fetch you Rs. 2,31,03,220. So, that is the difference of 19% (Rs.43,28,169) approx. in 25 years.
Most of the Advisors, Relationship manager or your Banker will claim this massive commission is justified by their services or advisory they give you in Regular plans.
I agree on this point; professional advice is essential for the investment.
Don’t you think this commission-based structure model will induce to advisors for high margin product?
That’s is why Miss selling is the biggest flaw in Regular plans.
So, answer would always be in favor of Direct plans, because of its lower expense ratio structure which leads to higher NAV of the Scheme and pass on to investors in the form of Higher growth or appreciation on their investment.
Although, you must take care of other side of the same coin. Before Switching to Direct plans, you need to consider how much exit load will be charged if I switch from Regular to Direct plans or its tax applicability which can swallow your return.
In the next Blog post I will try to figure out the best alternatives or option to Invest in Direct plans, or How could you switch from Regular plan to Direct Plan.