What exactly is a systematic transfer plan and how does it differ from an SIP?

Investing in mutual funds is now a popular approach to building wealth in the long term. You can use a variety of strategies while making mutual fund investments and the Systematic Transfer Plan, or STP, is one such method. In an STP, you can invest all at once in low-risk products like debt funds before switching to higher-risk funds like equities funds.

What is a systematic transfer plan?

A systematic transfer plan is an automatic method of transferring money from one mutual fund scheme to another. If you have a lump sum amount of money saved but want to avoid market timing, you can typically opt for this option.

For instance, even under volatile market conditions, you can generate risk-free profits by investing methodically in stocks. You can invest a lumpsum in one fund and move a certain amount regularly to another plan.

Why should you invest in an STP?

Starting an STP has the primary benefit of reducing market timing risk. The power of compounding allows regular investing to boost returns over time.

This is why Systematic Investment Plans (SIPs) and STPs, which are recurring payments, are more popular and efficient than lumpsum payments for equity mutual funds. The risk is mitigated in the case of an STP because only a portion of your money has been invested in the equity fund so far. This means that your entire corpus won’t feel the pinch of loss. If a large amount is invested in an equity fund and the market falls, your entire corpus will be subject to the loss.

How does an STP differ from an SIP?

Here are the four differences between STPs and SIPs:

• SIPs are typically open-ended. The investment period is not predetermined. You can withdraw whenever you want and invest for as long as you wish. STPs are an exception to this. Both the quantity and the duration of the transfers are regulated in this.
• You can participate in an SIP and put a set amount in a specific mutual fund programme. The funds are invested regularly. An STP involves investing a lump sum of money initially in a mutual fund plan, usually a debt fund. Then, these funds are moved systematically and periodically to the destination funds of your choice, which are typically equity funds.
• An SIP is appropriate for you if you want to make recurring long-term investments. Similarly, an STP can accomplish the same thing. However, one must make a one-time lump sum investment in a fund and then make monthly transfers for a set time.
• To determine the tax on profits upon withdrawing from the plan, transfer in the case of STPs is treated as a separate investment; each transfer in an STP is viewed as a redemption in the debt fund. This means gains will be subjected to short-term capital gains tax. This is not the case with SIPs.

Conclusion

Mutual funds differ in a variety of ways. You must therefore be cautious when choosing investment possibilities. Before investing, you should also be aware of the scheme’s structure because mutual fund investments are subject to market risk.