What is a Periodic Payment Plan?

Last Updated: 6 Mar 2023

Disciplined investing is one of the most challenging habits to incorporate as a young investor. They fear market fluctuations and often think that now is not the right time to invest. In this way, they end up not investing at all. Additionally, the funds to invest may not be available all the time.

Thus, it becomes easier to invest small amounts regularly. Moreover, performing extensive market research and then investing is not feasible for every investor. Some professionals take care of the research and help you invest money wisely. To solve these problems, there’s a specific investment product: a periodic payment plan.

This article spotlights the Periodic payment plan meaning, how it is different from an automated investment plan, and the consequences of skipping payments in the periodic payment plan.

Periodic Payment Plan

A Periodic Payment Plan is an investment plan where investors invest a fixed amount at regular intervals in mutual funds. The regular interval can be weekly, monthly, or quarterly. Other names for periodic payment plans are ‘Systematic Investment Plan’ and ‘Contractual plan’. The investors investing through this plan get the ‘periodic payment plan certificate’ as proof of ownership interest.

The Periodic payment plan is usually for a long term, such as 10, 15, or 25 years. For instance, if an investor is investing Rs. 1000 per month, they buy the mutual fund shares worth Rs. 1000, irrespective of the market price per share. The number of units of mutual funds bought differs every month depending on the price.

The mutual fund managers accumulate the money of several investors and invest that sum into various asset classes. They, in turn, charge some fees such as service charges, custodian fees, etc.

An investor can get engaged in the periodic payment plan at any time. They can start it according to their investment horizon preference. Though, the sooner they start, the better returns they get. Moreover, an investor also gets the option to extend the SIP at the end of maturity.

An individual can also increase or reduce the amount of SIP. Though, the procedure is not that easy. Therefore, investors can consider starting a fresh new SIP with the adjusted amount in the same or different mutual fund.

The tax for the periodic payment plans is calculated for each instalment individually. The taxability of returns from this plan depends on the type of mutual fund investments.

Advantages of Periodic Payment Plan

• Easy to understand: This investment plan is simple to understand and novice investors can easily use it for investment.
• Disciplined Investing: Periodic payment plan promotes disciplined investing. Investors, without spending time tracking the market movement or looking for the right time to invest, can keep investing at regular intervals.
• Rupee-cost averaging: The investors engaged in periodic payment plans keep investing without getting distracted from the market volatility. This tends to lower the average cost per unit.

  For example, the unit price was Rs. 35, Rs. 30, Rs. 28, and Rs. 33 on the first day of January, February, March, and April respectively. The amount invested every month is Rs. 1500. Therefore, the number of units bought was 42.86, 50, 53.57, and 45.45 in all four months respectively. Consequently, the average cost for four months was Rs. 31.27 per unit.

  If the investor would have invested a lump sum of Rs. 6000 in January, the number of units bought would be 171.43 and the average cost would be Rs. 34.99 instead of 191.88 units and Rs. 31.27 average cost in the periodic payment plan.

• Compounding factor: The small amounts invested at each interval through a periodic payment plan grows over the years and the returns get compounded.

  For example, if you make periodic payments of Rs. 1500 every month, for 15 years, assuming an average return of 12%, the total amount would grow to Rs. 7,56,864 due to the compounding effect.

What is the difference between a periodic payment plan and an automatic investment program?

In an automatic investment program, the investor’s funds automatically get deducted from the investor’s account and are contributed to an investment account at each interval. The inherent part of a periodic payment plan and automated investment programs is ‘Rupee/Dollar-cost averaging’. The investors invest the same amount at each interval, irrespective of price. Consequently, they get more units when prices are lower and vice versa.

Though, both investment plans differ in terms of cost. The automated transfer of money for buying shares in an automatic investment program is usually free of cost. Most of the funds do not charge for closing this service, too. However, investors investing through periodic payment plans incur higher costs in terms of sales charges and service fees to custodians.

What are the consequences of missing payments in a periodic payment plan?

In a periodic payment plan, if an investor fails to pay for some instalments in funds due to other financial commitments, they will not get penalized by mutual fund companies. Though, if the investor skips three instalments consecutively, the plan will get terminated automatically. To prevent such terminations, an investor can send SIP Stop Requests to the fund house, before at least 30 days, for skipping some instalments. Then, they can restart the SIP again when they are ready.

Skipping some investments does not affect the investment already made in a fund. An investor will keep getting returns from the fund invested. Investors willing to redeem the investment can put a redemption request online or offline.

To sum up, a periodic payment plan is an investment program where investors invest small but fixed amounts in a disciplined way. The key benefit of this investment plan is to keep investing without worrying about market volatility. However, the periodic payment plan is a bit expensive due to costs charged by fund houses and the liquidity in this type of investment plan is low as the withdrawal process is lengthy and can cost more to investors.

Frequently Asked Questions

How do you calculate periodic payment?

To calculate the periodic payment for a periodic payment plan you need to decide the inflation-adjusted amount you want to achieve at maturity, the number of years, and the expected return.

To arrive at the amount of periodic payment you can use the PMT formula in MS Excel. You need to identify the expected rate of return (Rate), investment horizon (Nper), and inflation-adjusted amount on maturity (FV). This will give you the periodic payment required.

What is a periodic payment annuity?

Periodic payment annuity is the accumulated periodic payment to be received at maturity.

How do you amortize a periodic payment?

If the periodic payments are done monthly, you can calculate interest payment by multiplying the interest rate with an outstanding loan and dividing that amount by 12. To arrive at principal due for a month, subtract the interest payment for a month from the monthly payment.