When age matters

Income returns arise from dividends received from the firm whose stocks you directly hold. | Photo Credit: iStockphoto

In recent times, several stocks have traded at prices that offer good dividend yield. This leads to the question: Are individuals interested in earning a dividend income? Should source of returns matter? Here, we discuss how your age determines your preference for source of returns, especially from equity investments.

Equity investments, like bonds and real estate, offer two sources of returns — income returns and capital appreciation. Income returns arise from dividends received from the firm whose stocks you directly hold. You can also earn dividend income indirectly via net asset value if you invest in mutual funds. Note, this dividend income is reinvested and realised as capital appreciation if you invest in the growth option of a fund.

The choice of returns depends on age. If you are a working executive, your main objective is to accumulate wealth to achieve life goals such as funding child’s education and buying a house.

This tilts your preference towards capital appreciation and is tax efficient; you pay taxes only when you sell a stock in direct investments or when you redeem mutual fund units. Now, goal-based investments are typically held for more than 12 months. So, if you have earmarked these investments for a life goal, the gains are likely to be taxed at 12.5 per cent above ₹1.25 lakh in a year. This is because these equity investments will be taxed as long-term capital asset.

What if you are retired? Your active income would have stopped and you now depend on passive income to meet post-retirement expenses.

This means you need monthly income to support lifestyle expenses. Also, most mass-affluent retirees are conservative investors viz. they prefer to conserve capital and consume income. In such cases, they prefer to invest in monthly income bank deposits. Investing in dividend yield stocks may be preferred by some as an additional source of income.

If taxes were the only consideration, then earning dividend income may not be an economical source of returns.

This is because dividend income is taxed at your marginal tax rate. Yet, retirees may prefer dividend as a supplement to their interest income to meet their post-retirement expenses.

In such cases, think of taxes as the cost retirees are willing to incur to consume income without drawing down their investment capital — selling shares or mutual fund units to generate cash flows.

Comments have to be in English, and in full sentences. They cannot be abusive or personal. Please abide by our community guidelines for posting your comments.

We have migrated to a new commenting platform. If you are already a registered user of TheHindu Businessline and logged in, you may continue to engage with our articles. If you do not have an account please register and login to post comments. Users can access their older comments by logging into their accounts on Vuukle.