The true cost of PMS returns: Disclosing the hidden gap between headline numbers and real investor gains

Synopsis

From glossy returns to tax drag, what an equity PMS earns investors often trails what is advertised.

For the nation’s wealthy investors, portfolio management services (PMS) have long carried the allure of exclusivity and superior returns. Concentrated portfolios, direct ownership of stocks, access to ‘star’ fund managers, and the promise of ‘alpha’ over mutual funds have helped PMS products gain popularity among high-net-worth individuals (HNIs) over the past decade.

However, there are many reality checks: taxes triggered by portfolio churn, layered fee structures, timing of investor entry and exit, behavioural mistakes during volatile periods, and the gap between reported strategy returns and actual cash outcomes. By the time these factors have worked their way through a high-turnover PMS strategy, the glossy headline number can look meaningfully different, sometimes by as much as five to seven percentage points a year.

“Gross CAGR (compound annual growth rate) can mislead; investors need realistic expectations aligned with actual outcomes,” says Prashasta Seth, CEO, Prudent Investment Managers. That distinction is becoming increasingly important as PMS assets grow rapidly, and more affluent investors move beyond mutual funds in search of differentiated strategies.

Growth of PMS industry AUM

Returns vary wildly across schemes

What you get

The starting point for a PMS evaluation is a framework that most investors do not apply: net-of-fee, post-tax returns, and measured over a full market cycle. Arun Prakash, Senior Director for Listed Investments at Waterfield Advisors, explains, “The overall cost of investing in a PMS could typically range from 1% to 3% in the form of fixed fees, administration charges, GST (Goods and Services Tax) and transaction costs.”

That range, 1–3%, is the visible cost. It does not account for the tax drag that accumulates when a PMS manager trades frequently within a portfolio held directly in the investor’s name.

While taxation is deferred in mutual funds until the investor redeems units, every buy and sell transaction inside a PMS generates an immediate tax event. The gains are realised in an investor’s hands, reported in their income tax returns, and taxed in the same financial year they occur.

Swapnil Aggarwal, Director at VSRK Capital, puts this into perspective: “Tax drag in high-turnover PMS strategies is meaningfully high. With approximately 60% churn, a large portion of gains tends to be short-term in nature, attracting approximately 20% short-term capital gains tax. For an investor in the 30% bracket, the effective annual tax drag can realistically range between 2–4%, or higher, depending on churn and profitability. This makes tax a material factor in overall returns, especially compared to more tax-efficient structures.”

Seth identifies another layer most investors miss entirely: “There are two to three components that lead to this drag, short-term capital gains tax on profits booked, the inability to offset fees paid against taxes paid or claim as expenses, and GST paid on fees charged by the fund manager.”

Fees of 1–2%, a tax drag of 2–4%, plus GST leakage on fees: add these components and a PMS strategy that delivers 16% gross can find itself delivering something closer to 11– 13% to the investor who holds it through a high-churn year. The gap between what the strategy earns and what the investor keeps is not a rounding error. It is a structural feature of the product. Note that the impact on returns would be more in high-churn strategies; for long-only strategies, the gap might not be that high.

The mutual fund comparison

To understand why this gap matters, consider the comparison that PMS providers almost never volunteer: a direct like-for-like with an identically positioned mutual fund.

According to Aggarwal, the structural difference is explicit: “In PMS, all buy and sell transactions are executed in the investor’s name, so every realised gain is taxed immediately. In contrast, mutual funds do not trigger tax on portfolio churn; tax is only applied when the investor redeems units. Even with an identical portfolio, PMS results in higher and earlier tax outflows, making it structurally less tax-efficient than mutual funds.”

The implications for compounding are significant. Tax paid early is capital that cannot compound further. In a mutual fund, that capital continues to work; the internal churn within the fund does not trigger a tax event for the unitholder. Over a 10- to 15-year horizon, this deferral advantage compounds into a meaningful difference in terminal wealth, even if the underlying portfolio generates identical gross returns.

Prakash highlights this, saying, “Many PMS managers run concentrated, highconviction portfolios with a clear focus on absolute returns—not just beating an index. Their goal is to generate meaningful long-term outperformance that more than justifies the fees and tax costs involved. For strategies that are benchmarked to an index, however, the math is more demanding: holding other parameters equal, tax liabilities stemming from the churn of the portfolio holdings become the predominant source of return detraction. We understand that constant churn of 50% and above in a year would dilute the 2% alpha generated over the flexicap fund at the gross level.”

In other words, a diversified PMS strategy that pitches itself on a 2% alpha over a comparable mutual fund may deliver zero net benefit to the investor if its churn exceeds 50% annually.

The invisible cost PMS investors rarely calculate

2–4%

Annual tax drag in PMS For a 30% bracket investor with ~60% portfolio churn. Can be higher depending on profitability.

1–3%

Total cost of ownership Fixed fees, admin charges, transaction costs, demat, audit, before tax drag is even counted.

2–5%

TWR vs XIRR - size & timing Difference between strategyreported returns and what investors actually realise, driven by timing behaviour.

Structural tax difference

PMS: Tax at every transaction

Direct ownership in investor’s demat Every buy/sell is executed in your name.

STCG triggered immediately 60% annual churn means most gains are short-term.

No tax deferral Unlike mutual funds, there is no mechanism to defer the tax liability.

Fee not deductible Management fees and GST cannot be offset against capital gains.

Tax filing is also a hassle in PMS—advance tax payment, proper computation of liabilities.

Mutual fund: Tax only at redemption

Pooled structure — unitholding Internal portfolio churn does not create a tax event for the.

No annual tax on trading Fund manager can churn the portfolio at any frequency

Full tax deferral until redemption The entire pre-tax corpus continues to compound. Tax is paid once, at exit.

TER is the only cost Total expense ratio (TER) covers management, administration, and transaction costs.

The TWR-IRR divide

Another return gap compounds this problem: the distance between the time-weight ed return (TWR) that PMS providers report and the internal rate of return (IRR) that investors actually realise on their capital.

TWR measures the strategy’s performance, stripping out the timing and size of investor cash flows. It is the return that the fund manager can legitimately claim credit for. IRR measures what the investor actually earned, accounting for when they put money in and when they took it out. In markets characterised by volatility—and concentrated PMS portfolios amplify volatility—these two numbers can diverge dramatically.

Aggarwal is candid about the scale of this divergence: “The gap varies based on investor behaviour. While TWR reflects strategy performance, investor IRR is influenced by entry and exit timing. In practice, the gap can be noticeable, especially if investors enter during peaks or exit during drawdowns. Behavioural timing often leads to lower realised IRR compared to reported TWR.”

Seth says, “The gap can range from 2% to 5%, driven by timing of inflows and outflows. Investor behaviour, fund manager conviction, and not just strategy performance, play a critical role in realised returns.”

PMS portfolios are concentrated—usually 20–25 stocks, as against a mutual fund’s 60–70—and this concentration amplifies drawdowns. “Investors often enter during strong bull phases and exit during periods of underperformance or market correction. Since PMS portfolios are concentrated, drawdowns can be sharper, which triggers emotional decisions. This results in clients exiting fundamentally strong strategies at the wrong time, driven largely by short-term performance anxiety,” Aggarwal explains.

Seth echoes this: “Recency bias and shortterm underperformance influence client investment decisions, leading to missed recoveries and lower realised returns.”

The disclosure problem

Prakash calls for a specific disclosure reform. “Every PMS provider should publish not just a single strategy-level return, but the actual distribution of returns across their investor base, along with the % of clients in each return band. Since NAVs (net asset values) can be influenced by account size, fee structures, and entry timing, a single number rarely tells the full story.”

This raises transparency in existing investors’ return experience from the PMS strategy and sets meaningful expectation of return variance for prospective investors.

Addressing the comparability problem, Seth argues, “Post-tax model returns improve transparency and set realistic expectations. Investors should understand actual take-home performance, especially in highchurn strategies where tax impact is significant. At the same time, care should be taken that there is a like-for-like comparison: posttax returns of PMS should be compared with post-tax returns of mutual funds, and not pre-tax returns, which is the norm.”

A significant reform proposal comes from Prakash on the question of a SPIVAequivalent framework for Indian PMS, a report that would show, on a rolling basis, what percentage of PMS strategies beat their relevant benchmark net of fees. “A SPIVAstyle report for Indian PMS, one that could provide better perspective on how many strategies genuinely beat their benchmark, net of fees, over rolling periods, would be a game-changer for how HNIs understand, evaluate and select PMS. The good news is that NAV data is already accessible through service providers, so the infrastructure for this kind of analysis is in place. Investors deserve that clarity.”

Implementing it, however, may be easier said than done. “There are over 1,200 PMS investment approaches under discretionary PMS operating in the industry,” says Mayur Shah, PMS Fund Manager at Anand Rathi Advisors. Every offering has a different investment philosophy due to a focused approach and concentrated portfolio, he adds.

When does PMS make sense?

The question is not whether PMS can deliver value, but under what conditions it can deliver enough net value to justify its structural disadvantages.

Experts are broadly aligned on the preconditions. Portfolio size is the first. Aggarwal suggests PMS becomes genuinely meaningful when “the investor has a portfolio size of Rs.4–5 crore or more, allowing an allocation of nearly 10% to PMS without overexposure.”

Seth sets the threshold slightly higher: “PMS becomes relevant above Rs.5–7 crore portfolios, where investors are not taking disproportionate risk on an individual fund manager. At that scale, they also have the ability to absorb volatility in pursuit of potential alpha generation.”

Time horizon is equally critical. Prakash recommends “at least five years for multi-cap strategies and seven years or more for smallcap,” horizons long enough for the strategy’s gross alpha to absorb the tax and fee drag and still deliver net outperformance.

On the question of where PMS fits within a broader portfolio, the consensus leans toward satellite rather than core, at least for most investors. “PMS is better suited as a satellite allocation due to its higher risk, concentration, and volatility. Core portfolios are typically better served by diversified and tax-efficient instruments like mutual funds,” says Aggarwal.

Seth agrees: “For smaller clients, PMS should typically be a satellite allocation. For ultra HNIs and family offices who have the ability to evaluate fund managers and their strategies, PMS should be a core part of the portfolios, as it will allow them to reflect their market views and sector views much more efficiently.”

How to make the choice

PMS

When PMS may still make sense

Experts recommend allocating a portion when you have a minimum Rs.4–5 crore+ portfolio

Minimum 5-year horizon for multicaps

Alpha is large enough to survive 3–5% costs

Investor has capacity to absorb volatility

Mutual fund

When mutual fund is the rational choice

PMS gross alpha over comparable mutual fund is below 3–4%

Annual portfolio churn exceeds 50%

Investor profile suggests likely exit during drawdowns

Compliance simplicity, and tax deferral compound materially

The net-return framework

Waterfield Advisors uses a four-stage quantitative and qualitative screening process that begins with standardising performance measurement across strategies, an important exercise given that “only about 60% of active PMS strategies have 3 or more years of history needed for meaningful performance, risk, and risk-adjusted analysis,” says Prakash. Fee structures add further complexity, making net-return comparisons non-trivial.

Aggarwal’s framework brings it down to essentials: “The comparison should be based on net-of-fees, post-tax returns over a full market cycle. PMS can outperform in strong bull markets due to concentrated portfolios of 20–25 stocks, but this comes with higher volatility and tax drag. Mutual funds, with broader diversification, offer more stability and better tax efficiency. Hence, evaluation must consider consistency, drawdowns, and after-tax outcomes, not just headline returns.”

“PMS having a focused and concentrated portfolio has the potential to generate higher returns or alpha over the benchmark index over a 3–5 year horizon. There’s a possibility that, in a short run, returns can diverge compared to the index due to concentration and sometime negative; however, over the longer term, returns tends to merge with index and even better than the index,” Shah points out.

Ask the right questions

The hidden return gap in PMS investing is not a flaw, but a structural reality shaped by taxes, fees, churn, and investor behaviour. For investors who understand these frictions and still find a strategy that delivers meaningful post-tax, net-of-fee alpha over a full market cycle, PMS can be a powerful wealth creator.

The problem is that many investors still compare gross CAGR with netof- fee and net-of-tax returns, without accounting for annual tax drag, the gap between strategy returns and investor IRR, or the variation in actual client outcomes. Before committing to a PMS, ask a few basic questions: what is the post-tax, net-of-fee return over a full cycle? How much portfolio churn drives tax liability? How different are client returns from reported strategy returns? And, would investors be better off in a comparable mutual fund after accounting for all costs and taxes? If those answers are unclear, the return gap may be far larger than it appears.