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'UTI can't penalise other schemes just to revive US-64'

Aabhas Pandya

The country's largest mutual fund, the Unit Trust of India (UTI), is in a very ironical situation. The tax-free status to equity funds in 1999 to resurrect UTI's flagship, US-64, is now forcing the Trust to eat into the assured payout in its pre-1997 monthly income plans. The reason: dividend from closed-end funds and open-end funds with less than 50 per cent exposure to equity will be taxed at the rate of 22 per cent from June 1, 2000.

The dividend tax was hiked from last year's 11 per cent to 22 per cent in the budget for fiscal 2000-2001. By the same yardstick, investors are also being penalised in UTI's Mastershare, where they have paid an 11 per cent dividend tax.

It may be recalled that the reserves of US-64 had turned negative to the tune of Rs 10.98 billion as on June 30, 1998. Since US-64 commands around 20 per cent of the Indian mutual fund market and has an investor base of over 35 million, it became imperative for the government to bail out the fund. The dividend from US-64 was made tax-free in 1999 to boost the inflows into the fund and improve the yield even as UTI reduced the payout to more realistic levels at 13.5 per cent. Besides the tax sops, the bullish fervour in equity markets propped the reserves to (+) Rs 35.80 billion as on December 31, 1999.

In a communiqué to the country's market regulator, the Securities and Exchange Board of India (SEBI), UTI has reportedly said that it would have to deduct a 22 per cent dividend tax in its assured return monthly plans. This effectively means that an investor's returns will be lower by 22 per cent. For instance, if UTI had assured 10 per cent in its MIP, an investor would now get only 7.8 per cent. The rest will go as dividend tax to the government.

Last year, despite the 11 per cent dividend tax, UTI was able to shell out the assured return since the equity markets were booming and the underlying securities of its debt portfolio witnessed appreciation as interest rates declined. While interest rates now seem to be heading northwards (which will lead to depreciation), equity markets are also depressed. UTI's MIPs invest around 25 per cent of their corpus in equities.

Having mentioned the genesis of UTI's current dilemma, it is interesting to see if UTI needs to sport a frown regarding the assured returns in its pre-1997 MIPs or is it merely a tool to exert pressure on the Ministry of Finance? UTI has been lobbying with the government to roll back the hike in dividend tax since it hits the returns from MIP. The MIP series has become the mainstay of UTI's fresh mobilisations - in 1999, UTI garnered Rs 40 billion from two MIPs. However, it is feared that the scheme will lose its charm with a 22 per cent dividend tax coupled with the launch of open-end MIPs from other mutual funds.

Being a five-year plan, there are now only seven pre-1997 MIPs, launched in 1995 and 1996. In these seven MIPs, UTI had assured returns only for the first year while returns for subsequent years are announced in March every year. Take for instance, MIP '96 (IV), which was launched in November, 1996 and assured a payout of 15 per cent for the first year. After paying a consolidated dividend warrant till March, 1997, the payouts were streamlined between April and March of every year. This has been the case in all the MIPs, where UTI has assured returns for the first year.

Since the budget for the current fiscal was presented on February 29, UTI had the time to re-work the payout for the current year on the basis of the 22 per cent dividend tax for all MIPs, where it declares a payout in March every year. This leaves no room for UTI to complain now.

The seven MIPs have a combined corpus of Rs 71.68 billion. While MIP '95 comes up for redemption in June 2000, the last of the series, MIP '96 (IV) will be redeemed in December 2001.

In case UTI is still feeling the pinch, it has the Development Reserve Fund (DRF) of Rs 9 billion to bridge the gap. The DRF is specifically meant to chip in if UTI fails to pay the assured return in its MIP and Institutional Fund (IISFUS) Series. Certainly, UTI cannot penalise one set of schemes and its investors since it wanted tax breaks to revive US-64.

Source: Value Research

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