What is Exit Load in Mutual Funds?
When it comes to money management, it is always vital for the investors to know the expenses associated with their investments, as such costs and charges directly eat into their returns. Some of the expenses may be unavoidable for the investors, like fund management expenses, etc., for it adds value to the mutual fund scheme. However, investors may avoid one such charge if they diligently plan for their investment redemption, i.e., exit load.
What is Exit Load?
Exit load is a charge levied at the time of mutual fund redemption if the investor redeems before the expiry of the specified period of investment in the scheme. Any exit load charged from the exiting investors is credited to the mutual fund scheme itself and does not form part of the profits of the mutual fund house.
It is primarily intended to compensate the remaining investors for the impact cost arising on the early liquidation of investments due to redemption outflows. The investors must note that the exit load is calculated as a percentage of fund NAV and not on the actual fund returns. As such, the exit load directly eats into the overall returns for the investors at the time of redemption This discourages the investors from early redemption of their investments.
Mutual funds cannot charge any exit load beyond the levels as specified in the offer document. Further, any change in the exit load provisions can only be applied prospectively and not on the existing investments of the investors.
Another essential point to note for the investors is that the levy of exit load on a mutual fund scheme is different from the lock-in period. While the investors can liquidate their mutual fund investments when the exit load is levied, it is impossible to redeem any mutual fund investments during the lock-in period.
Exit Load on Different Mutual Fund Scheme
Exit load is not something that is made applicable to all mutual fund schemes in the same proportion. Some mutual fund schemes may levy exit load until the investment period up to two years, while some schemes may levy exit load until the investment period of seven days only.
Further, many schemes may opt not to levy any exit load at all. The broad principles for different mutual fund categories concerning exit load are as below:
- No exit load is charged on overnight schemes.
- A graded exit load can be levied in liquid schemes if the investment period is less than seven days. As such, the exit load reduces progressively as the holding period increases.
- Debt funds generally levy exit load on the redemptions if the holding period is less than periods ranging from one month to one year.
- Equity funds may generally levy exit load on the redemptions if the holding period is less than periods ranging from one year to two years.
Calculation of the Exit Load at the time of Redemption
Exit load is calculated by multiplying the exit load percentage on the Net Asset Value (NAV), which is then deducted from the NAV to arrive at the applicable NAV for redemption.
For example, if an investor has redeemed 1000 units of a mutual fund scheme with NAV Rs. 200 and exit load is 1%, the applicable NAV for redemption will be Rs. 200 less 1% of Rs. 200 (i.e., Rs. 2), which calculates at Rs. 198. As such, the redemption proceeds for the investor would be Rs. 1,98,000 (Rs. 198 multiplied by 1000 units). The redemption proceeds would have been Rs. 2,00,000 (Rs. 200 multiplied by 1000 units) without any exit load.
Tax Treatment of Exit Load
The appreciation in the investment value against the cost of investment is taxed as capital gains when the investor redeems the investment. If the exit load has been levied on the redemption transaction, the redemption proceeds are calculated net of such exit load. Such proceeds (net of the exit load) are only considered to calculate the capital gain for tax laws. Accordingly, such exit load is an allowable expenditure under the tax laws.
Note: The tax provisions, as mentioned in the article, are for illustrative purposes only and are updated as per the Union Budget 2021 passed by the Parliament. The tax rates for capital gains will be as per the tax laws applicable on the date of redemption/ sale and not on the date of investment.