Mutual funds are becoming a popular choice for multiple investors looking forward to meeting their financial goals. While mutual funds offer higher returns than various other investment tools, the returns are taxable. But mutual funds also offer various tax-saving opportunities. Scour through this article to learn in detail about tax on mutual funds.
Factors Determining Tax on Mutual Funds
The taxes applicable to mutual funds are calculated on the basis of the following factors:
- Fund types: Taxes are applicable on debt-oriented and equity funds.
- Capital Gains: Investors often sell their capital assets at a higher price than their original value. The profit earned in this scenario is the capital gains.
- Dividend: It refers to the portion of the accumulated profit distributed among different investors by the mutual fund houses.
- Holding Period: According to the Indian income tax law, you will be liable for a lower tax amount when you hold your assets in an investment for a long time.
Tax on Mutual Fund Dividends
Dividends from any mutual fund scheme are taxable according to the classical manner. Therefore, the dividends earned by investors will be taxed according to their income. Every investor earning a dividend is taxed according to their income tax slab rates.
Previously, no tax was applicable on dividends because the companies paid dividend distribution tax before sharing profits with investors. But dividends of up to Rs 10 lakhs were only exempted from taxes in the hands of the investors. Dividends above Rs 10 lakh in a single financial year attracted a DDT of 10%.
Tax on Mutual Fund Capital Gains
The capital gains earned from mutual funds are taxed according to the holding period. The holding period is the duration between the buying and selling of mutual fund units. The short-term and long-term capital gains on mutual funds are taxed differently.
Tax on Capital Gains of Equity Funds
Mutual funds classified as equity funds have a portfolio exposure of at least 65%. When you redeem your equity fund units within a holding time of one year, you receive short-term capital gains. Regardless of your income tax bracket, these profits are taxed at a flat rate of 15%.
When you sell your equity fund units after holding them for at least a year, you get long-term capital gains. These capital profits are tax-free, up to Rs 1 lakh per year. Any long-term capital gains in excess of this threshold are subject to a 10% LTCG tax, with no advantage of indexation.
Tax on Capital Gains of Debt Funds
Debt funds have a portfolio exposure of more than 65%. Short-term capital gains from debt funds are added to an investor’s taxable income and taxed according to their income tax rate. Long-term capital gains from debt funds are taxed at a rate of 20% post-indexation. Moreover, applicable cess and surcharge are applicable on tax on long-term capital gains from debt funds.
Tax on Capital Gains of Hybrid Funds
The tax rate on capital gains from hybrid funds is based on the portfolio’s equity exposure. When the exposure is more than 65%, the tax rate of an equity fund becomes applicable. If the exposure is less than 65%, the tax rules of debt funds will be applicable.
STT or Securities Transaction Tax
The STT is different from the dividend and capital gains taxes. An STT of 0.001% is levied by the government on the purchasing and selling of equity-based or hybrid equity-based mutual funds. But debt-oriented mutual funds are exempted from the STT.
Bottom Line
Before investing in mutual funds, you must know in detail about the tax rates to predict your returns. You have the benefit of investing in tax-saving mutual funds to enjoy tax deductions of up to Rs 1.5 lakhs.
