Change is the only permanent thing in the market and change is inevitable as well. Prior to 1st Feb 2018, taxation on the Mutual Fund schemes for long term capital gains did not exist from October 2004 to January 2018, but was reintroduced w.e.f 1st February 2018 to increase the taxable outlay.
The Ministry of Finance, Government of India reintroduced the taxation on long term capital gains from equity and equity oriented Mutual funds in the budget-2018. These changes sparked a lot of confusions in the mind of the investors. However, the Ministry of Finance set few guidelines to eradicate the confusions among the investors. The voluminous information of taxation, is simplified for easy understanding by the investor(s) by following the below mentioned guidelines.
The Taxation on Mutual Funds has been changed for both Equity and Debt oriented MF schemes. Also the rules are different for short term and long term capital gains. If 65% or more of the corpus of a mutual fund scheme is invested in equities, it is treated as equity scheme for the purpose of taxation. In case the investor redeems the equity fund investments within a year, returns or capital appreciation is treated as short-term capital gains which is taxed at 15% on the capital gains. On the other hand, capital appreciation on equity mutual funds held for more than a year are treated as long-term capital gains, which attracts 10% tax on capital appreciation exceeding Rs. 1 lakh a year on equity investments.
Similarly, if the investor had invested in equity mutual funds or shares before 31 January 2018, capital appreciation till that date will be considered as grandfathered, which will be exempted from tax. In other words, the capital gains accumulated till 31 January 2018 will not be considered for capital apperception tax. Dividends from equity mutual funds are tax-free in the hands of investors. However, the dividends from equity mutual funds are paid by the company only after deducting a dividend distribution tax (DDT) of 11.648% (including surcharge and cess), which reduces the in-hand return for investors.
Interestingly, the Arbitrage mutual funds invested in arbitrage opportunities, in cash and derivative segments of the equity markets, are also treated as equity funds for the purpose of taxation and the taxation slabs are similar to that of the equity funds.
International funds (which invest in stocks abroad) and fund of funds (a mutual fund scheme that invest in different mutual funds) are considered as debt funds for the purpose of taxation. Tax rules applicable to debt funds, capital appreciations or returns from international funds and fund of funds are similar.
In case of debt funds or non-equity funds, if the investor sells the investments before three years of holding, capital appreciation or returns are treated as short-term capital gains for taxation purpose.
Short-term capital gains are added to investor’s income and taxed accordingly to the investor’s applicable income-tax slab. If the holding period of debt fund investments is more than three years, returns are considered as long-term capital gains for taxation purpose and taxed at 20% with indexation benefit. Indexation means the adjustment of capital appreciations after taking inflation into consideration. So, if the investor has invested in a debt fund for over three years, the investor will be paying taxes only on the returns over and above the inflation-adjusted initial investment.
Dividends from debt mutual funds are tax-free in the hands of the investor but dividend pay-outs from debt mutual funds are subjected to a dividend distribution tax of 29.12% (including cess and surcharge). This effectively reduces the in-hand return for investors.
It is worthy to note that all the above guidelines are applicable at the time of redemption of the Mutual Fund / equity investments. The reintroduction of taxing was taken to not only increase the Indirect Tax base, but also to compel investors who were making huge earnings in equities and never contributing any taxes/revenue to the Government as there was no tax on the Long term capital gains from the equities and equity oriented Mutual Funds.
About the Author
A.R. Jayaprakash Patil an Assistant Professor associated with MAHE-MABFSI at Bangalore, has a stint of over 25 years in the field of sales & training. Mr. Patil started his career as medical representative with one of the leading pharmaceutical company Ranbaxy and Boehringer Mannheim. He grew up to the position of Area Manager in the span of over 15 years. Mr. Patil shifted his career to Life Insurance training associating with Bharti Axa as Branch Training Manager and ING Life as Senior Training Manager handling Bancassurance channel. In his stint of over 4 years, he held the position of Area Training Manager and handled all the verticals of insurance training viz., Agency, Banca, Call Centre, Cooperative Banks & Broker Channel. His move to get associated with Max Life as AVP- Sales, for career growth excelled him as a lead performer in revenue contribution to the company.