New Investor: Beware of Direct plans

“Are direct plans all that beneficial?” was a twitter headline I read this morning and I was stumped.

To me:

Is the question really about benefit of direct plans or the way advisor is compensated? @PrashantmET https://t.co/hY7t1e02bz

— Vipin Khandelwal (@vipinkh) May 10, 2016

This summarises all that is wrong about the understanding about the direct plans of mutual funds.

The popular media and some advisors too has also not been able to hold its horses and has given out interpretations and views that show the direct plans in not so good light. So much so that it has been declared that new investors should not invest in direct plans.

Now, the investor is left utterly confused. In this post, I will try and bring out the facts and help you, the investor, to make the right decisions about direct plans.

If you want to know what are direct plans of mutual fund, read this post first.

New Investors should not invest in direct plans.

It is the most ridiculous piece of advice I have ever heard. Direct plans are not about new or existing investors.

Direct plans are about giving you a choice.

If you want to let your advisor/distributor earn from the commissions from the mutual funds every time you invest, great! It is a call you take.

This commission can go upto to 1% or more every year and is given out on the market value of your investments. And that is the compensation of your advisor/distributor. You, ideally, do not pay any other fee from your own pocket.

However, if you want to retain control of how much and when you pay your advisor, you go for direct plans. In direct plans, no commissions are paid out to anyone.

Now, there are two things you should understand here.

One, you are an informed investor and you know what you are doing. You decide the funds that you want to invest in and do it all by yourself. For execution, you go straight to the fund houses (online or offline) and invest directly, saving all the money (that would have been paid out as commissions) and instead making it work to grow your wealth.

You would be a typical Do It Yourself (DIY) investor. And that’s fantastic.

Two, you know you need advice. Not just because you may not be so aware but also that you may not find enough time to take matters in your own hand. A trusted advisor is what you need who can help you on your investing journey.

Now, it doesn’t matter if you are a new investor or an existing one.

You hire an advisor to do your financial planning, asset allocation, portfolio advice, execution, ongoing review, etc. For these services, you pay a fee to the advisor, out of your own pocket.

The advisor in turn recommends to you only direct plans of mutual funds. Hence, your investments pay zero commissions and enjoy better returns.

You realise what is happening here.

The best part is that the direct plan gives the power to you to decide how much you do you think the advice is worth to you and pay accordingly. There is no third party that takes the decision for you.

As far as I am concerned, I am all for direct plans – the empowerment and flexibility they offer.

Finally…what’s the real debate on direct plans?

So, the real debate is how you, the investor, want to compensate for advice and other services.

In case of regular plans, the cost is apparently in-built into the product expense.

In case of direct plans, there is no commission payout to anyone. If you are seeking advice or services, you pay a fee to your advisor/financial planner.

Hope that is abundantly clear to you now.

New or existing investor, you can choose your way!

Further read: Who should be your investment advisor?