What is Lock in Period in Mutual Funds?

These days, a portfolio of investments would be incomplete without mutual funds. The easiest and most prudent method to increase your wealth is to channelise money from many people. Then you must distribute it across a variety of asset classes. 

This idea underpins how mutual funds invest across a variety of asset classes. It includes debt, equities and other instruments to provide investors with a well-rounded investment portfolio. The majority of investors are becoming aware of the advantages of mutual funds. So, they choose them to help them reach all of their financial objectives. 

Among the main benefits of mutual funds are their simplicity of use, lower investment requirements, expert management, and the advantages of diversification. Read on to learn about a mutual fund lock in period in detail.

What is a lock-in period?

You must be wondering what is lock in period in mutual funds? A mutual fund lock in period is the time frame when you cannot redeem their fund units fully or partially. The lock in period is typically three years in the event of a closed-ended fund. 

Most mutual fund without lock in period are also available in India. The Equity Linked Savings Scheme is the lone exception within the category of open ended schemes. ELSS mutual funds are tax-saving options with a three-year lock-in term. Up to Rs 1,50,000 in deductions are allowed for investments made in these funds under Section 80C. 

For broad, unrestricted investment plans, should you withdraw from the fund within a year, you’ll incur a minor charge referred to as an exit load. Yet, the duration for this fee might differ for specific funds. Beyond this timeframe, no fee is imposed upon exiting or redeeming your investment.

Does the lock in period in a mutual fund vary?

A mutual fund lock in period might change depending on the type of mutual fund plan. For example, the tax saving mutual fund Equity Linked Savings Schemes has a three-year lock in period. This implies you cannot sell or redeem their units before the expiration of the three years from the investment date. 

Similarly, the offer document for a scheme may specify a lock-in term for some closed-ended mutual funds. Additionally, gains on assets held for longer than three years are classified as Long-Term Capital Gains (LTCG). Depending on the person’s taxable earnings, the tax rate on long-term capital gains (LTCG) is lower than the rate on regular income. Therefore, a lock-in term longer than three years would be advantageous. 

All open-ended mutual funds, however, are mutual fund without lock in period. Their flats are always available for purchase and sale. You must hang onto your investment until the lock-in period for a certain length if you have a fixed maturity plan in debt funds. 

You can use your units for redemption after that time. The lock-in is intended to realise the yield on the underlying debt assets, which should be kept until maturity, not for tax planning purposes. Lock-in times are typically imposed to dissuade speculative and short-term trading. It assists you in forming the long-term investment habit. 

Significance of the lock-in period

So, now you know what is lock in period in mutual funds. Here are some particular reasons why the lock-in time is crucial.

• Initially, this attribute serves to safeguard investors. For novice investors, sudden market volatility might lead to impulsive withdrawal of invested funds. By mandating a specific holding period, it ensures that your capital remains untouched for a designated duration. Consequently, you’ll have the opportunity to potentially secure higher returns by maintaining your investment over the long haul.
• Investors can ascertain the benefits of prolonged investment periods. This predefined timeframe encourages investors to adhere to their investment strategy, facilitating the acquisition of skills in maintaining funds invested for extended durations and capitalising on potential gains.
• Investors can capitalise on the tax benefits associated with long-term capital gains.
• For hedge fund managers, having ample time allows for strategic exits from investments. Abrupt withdrawals or frequent fund liquidations can disrupt the overall portfolio balance.
• In the context of Initial Public Offerings (IPOs), the designated timeframe enables listed firms to utilise raised capital to establish a strong market position effectively. Additionally, it shields investors from post-IPO price fluctuations.
• This period plays a pivotal role in fostering stability within mutual funds. Excessive redemption requests can strain fund liquidity. The lock in period in mutual funds serves to uphold the fund’s liquidity levels.

What should you do after the lock-in period?

An investor is advised against withdrawing funds immediately upon the conclusion of the lock in period. Instead, it is wise to take time to assess the fund’s performance before deciding to redeem the funds. You can even choose to increase the length of the investment.

Equity Linked Savings Scheme funds typically have a lock in period of 3 years. Investors should extend their assessment period to five to six years. This will help them to evaluate the fund’s growth potential thoroughly. This extended timeframe allows for a more comprehensive understanding of the fund’s performance. Investments in these funds require time to mature and a three year duration may not suffice for a thorough evaluation.

However, in instances of financial urgency you may need immediate funds. Investors have the option to redeem their investments to meet pressing monetary needs.

Furthermore, the fund may exceed expectations during the lock in period. Investors may opt to partially redeem their investment while leaving a portion invested for an extended duration.

Lock-in times for various investment types

• ELSS mutual funds typically entail a holding duration of three years on average.
• Tax-saving Fixed Deposits come with a lock-in period of five years.
• Investments in the 8% Government of India bonds are subject to a six-year lock in period.
• ULIPs mandate a minimum lock-in period of five years.
• Hedge funds typically require investors to hold their positions for a period ranging from 30 to 90 days.
• Investors in the Public Provident Fund typically commit their funds for a period of 15 years.

What are the benefits of a lock in period in mutual funds?

The lock in period in mutual funds offers benefits for investors and funds some of which are outlined below-

• Facilitates long-term investment benefits by encouraging investors to maintain their investments for extended periods.
• Mitigates impulsive withdrawals driven by minor market fluctuations, thus fostering stability and continuity within mutual funds.
• Promotes stability within funds and preserves their integrity.
• Enables investors to claim income tax deductions on taxable income, particularly in the case of ELSS funds, which are eligible for a maximum tax deduction of ₹ 1,50,000 under Section 80C of the Income Tax Act, applicable only under the old tax regime.
• It provides an opportunity for investors to gain insights into market dynamics by maintaining their investments over prolonged periods.
• It is essential for investors aiming to accomplish specific financial objectives through their investments.

Conclusion

In summary, the lock in period prevents you from selling your investment prematurely and enabling long-term investment advantages. It serves as a measure to safeguard the fund’s liquidity and enhance its stability. Most importantly, it does not dictate your investment tenure. You must know how to check lock in period of mutual fund. Consequently, there’s no compulsion to redeem units once the lock in period concludes. However, it’s advisable to maintain your investment only if its performance aligns with your financial objectives.

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