Two of the most significant factors that eat into your returns on mutual fund investments are taxes and inflation. You need to plan investments considering these factors to not fall short of setting an amount for your goals.
One of the most popular forms of long-term investments, mutual funds come with their tax brackets and rules. We’ve broken it down for you but keep in mind that these rules can change and you need to be vigil about the same –
- Holding periods – The period for which you as an investor stay invested when it comes to a mutual fund bond or a scheme is called the holding period. There are two types –
- Long-term holding period – A long-term holding period is when you hold an investment for 12 months or over. If it is a debt fund, then the investment is long-term if it exceeds a period of 36 months
- Short-term holding period – If the holding period doesn’t exceed 12 months, then the equity investment is considered a short-term one. Debt funds that are held for lesser than 36 months are also regarded as short term.
Here’s a table to explain the same for multiple types of funds –
| Funds | Short-term | Long-term |
| Equity-oriented Balanced funds | < 12 months | 12 months < |
| Equity funds | <12 months | 12 months < |
| Debt funds | < 36 months | 36 months and more |
| Debt-oriented Balanced funds (debt-oriented) | < 36 months | 36 months < |
Taxation on Mutual Funds –
- Equity Funds – The regular funds for equity and tax-saver are considered equal when it comes to taxation. ELSS funds differ from regular funds when the lock-in period is considered. Most regular equity funds don’t have a period for lock-in, and ELSS funds come with the same for three years. The redemption of the same can be done only once the period is over. The LTCG tax can be applicable at a 10% rate if the gains exceed 1 lakh, with no benefit to indexation.
- Debt Funds – Debt funds having long-term capital gains can be taxed at a 20% rate post indexation. This is a method of inflation factoring from the purchase time to the unit sales.Inflating the debt funds’ purchasing price can be done with indexation and reduce the quantum of the capital gains. You can also add the short-term gains from the debt funds to the overall income. The more time you hold onto the mutual fund units, it becomes easier to become tax-efficient. The long-term gains on the tax are lower than the short-term gain tax.
- Balance Funds – These funds can be taxed depending on the exposure of equity. Equity-oriented hybrid funds can be taxed as other equity funds, while hybrid DO funds can be taxed like any other debt fund.
- SIPs – Systematic Investment Plans, also known as SIP, is a method to invest in mutual funds. The way they are designed is – an investor invests small sums periodically, and they’re given the liberty to choose how frequently they wish to invest. This can be monthly, weekly, quarterly, or even annually. The mode of investment is used to decide the taxation of these mutual funds. SIPs are taxed on a pro-rata basis. Every SIP is treated as a brand new investment and is taxed separately on gains. For ex., if you initiate a SIP of Rs.10,000 a month for 12 months in an equity fund, then each SIP can be considered as a new investment. After a year, if you plan on redeeming the corpus accumulated (gains plus investments), all gains don’t become tax-free. Only those gains which were earned on the initial SIP are tax-free. This is because the investment would’ve completed a year. The rest are subject to the short-term gains tax for capital.
- Securities Transaction Tax (STT) – There is also a type of tax known as the Securities Transaction Tax. The Finance Ministry levies an STT of 0.001% if you decide to sell the units of an equity or a hybrid-equity fund. There is also no STT on selling debt fund units.
These are the different tax rules for various mutual fund investments. Log on to FinGurus and let us help you understand and make effective investing decisions.