Mutual Funds & Short Term Liquidity Needs

When an urgent financial need arises, selling your mutual fund investments may seem like the quickest solution. However, doing so can severely limit your long-term wealth-building potential. Mutual funds are designed to grow significantly over time, especially when held long enough to benefit from compounding. Instead of selling, a smarter option is to consider a Loan Against Mutual Funds (LAMF), which allows you to meet short-term liquidity needs without sacrificing future gains.

Here's why selling mutual funds for short-term liquidity is a bad idea and how LAMF provides a superior alternative.

1. Disruption of Long-Term Wealth Building

Mutual funds, particularly those invested in equities, tend to deliver substantial returns over time. A typical return of 14% per annum can significantly boost your wealth if held for the long term. Selling these investments early can disrupt the compounding process, resulting in lower overall returns.

For example, if you invested ₹1,00,000 in a mutual fund with an annual return of 14%, your investment could grow to ₹3,70,000 over 10 years. If you sell after just 3 years, you would only realise a value of ₹48,000, effectively missing out on the substantial growth that could have occurred later on, as shown in the chart below.

Taking a loan against your mutual funds allows you to retain ownership of your investments, ensuring they continue to grow and compound. You can meet your immediate liquidity needs without disrupting long-term wealth accumulation.

2. Capital Gains Tax Implications

Selling mutual funds can trigger capital gains tax, reducing your total returns. Depending on the holding period, short-term capital gains tax can be particularly high. This unnecessary tax liability can eat into the profits you've worked hard to earn.

By opting for a loan against your mutual funds, you avoid selling your assets and thus avoid capital gains tax. Your funds remain intact, and you can continue to enjoy their full growth potential without any immediate tax implications.

3. Exit Load and Penalties

Some mutual funds impose exit loads when you redeem units before a specified period, usually around a year. These fees reduce the value of your redemption and make selling an inefficient liquidity solution.

With LAMF, you don't have to sell your mutual fund units, so there's no exit load or penalty. You maintain all the benefits associated with your investment while still accessing the liquidity you need.

4. Market Timing Risks

If you sell your mutual funds during a market downturn, you may be forced to lock in losses. Reinvesting at a later date may not always recover those losses, and attempting to time the market is risky and often leads to subpar returns.

By leveraging your mutual funds for a loan, you avoid selling during unfavourable market conditions. Your funds can recover and grow while you meet your short-term liquidity needs, ensuring you're not forced to sell at a loss.

5. Convenience and Speed

Selling mutual funds isn't always a quick process. The settlement of equity mutual funds, for example, can take a few days. This delay can be problematic if you need cash immediately.

Loans against mutual funds offer near-instant liquidity, with many financial institutions offering the option to receive funds within hours. This makes it an ideal solution for urgent needs, providing both speed and efficiency.

Way Forward

Selling mutual funds to address short-term liquidity needs is generally a poor financial decision, especially when you consider the long-term growth potential, tax implications, and exit costs. A Loan Against Mutual Funds (LAMF) provides a better option, allowing you to access liquidity without selling your investments. Your mutual funds continue to grow at their potential rate, such as 14%, while you manage your immediate financial needs.

By choosing LAMF from Quicklend, you can avoid the common pitfalls of early selling and keep your financial goals on track, ensuring that you don't miss out on the substantial gains waiting for you in the future