Direct or regular plan of MF scheme: Which one to choose & why

In 2013, Securities & Exchange Board of India (SEBI) directed all asset management companies (AMCs) to launch direct plans for all its open-ended mutual fund schemes. These ‘direct plans’ have been created to connect the investors directly to the mutual fund houses without any interference of the intermediaries like mutual fund distributors, brokers, etc. So, the direct plans are those plans, where investors can purchase units of MF schemes directly from the AMCs. They have a lower expense ratio as the investors buy directly from the AMCs and hence, do not have to pay any trail fees or commission to any broker or agent. Therefore, the direct plan of a mutual fund scheme, having a separate NAV is higher than a regular plan’s NAV.

Many investors are unable to understand the difference between these two and often get confused while deciding which one to buy, direct or regular. To explain them, both the plans, direct and regular, have the same asset allocation, investment objective, and portfolio composition as well as similar portfolio constituents. Just like the regular plans, direct plans also offer various options for investing, viz. systematic investment plan (SIP), systematic transfer plan (STP), and lump sum. These plans differ mainly in their respective NAVs and expense ratios.

In the case of direct plans, fund houses do not have to incur distribution expenses, which lead to lower expenses and further results in the lower expense ratio. The expense ratio of direct and regular plan differs by almost 0.5 per cent to 1.5 per cent.

As operating expenses are directly deducted from the AUM of the fund, the lower expense ratio of direct plans leads to a lower deduction of expenses from the AUM, which translates into higher NAV of direct plans compared to the regular plans.

Direct plans score well over regular plans in terms of returns. The main reason behind this is the lower expenses as explained earlier. The small difference in the initial years turns big over time with the power of compounding.

Direct funds are just a different version of the regular mutual fund schemes. The key difference between these two is that the traditional intermediaries are excluded from the process of distribution and sales.

As mentioned above, this simple exclusion of the intermediaries has an impact on the scheme's NAV, which in turn, increases the return of investment of an investor. So, considering these positive takeaways, investors are advised to buy direct plans of mutual funds as they can enhance their returns over a period of time.

Nevertheless, regular plans are for those, who don’t have adequate knowledge of mutual funds and the markets. They need a hand holding while making investment decisions.