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Mutual Funds Taxation in India

Income from Mutual Funds can be segregated into two parts Dividends (return on investment) and

Capital Gain (increase in value of investment). Accordingly taxation on Mutual funds can also be divided

into two categories:

1. Tax on Income / dividend distribution by a scheme

2. Tax on Capital Gain/Loss from the redemption of MF units

CAPITAL GAIN TAXATION ON MUTUAL FUNDS

Appreciation in the value of asset is termed as Capital Gain, let’s say you bought few shares of Reliance for

Rs. 1 lakh and sells it for Rs.2 lakhs, you have made a Capital Gain Rs. 1 lakh which is taxable under the

head of Capital Gain but the rate of tax is decided by the period of holding, i.e. short term and long term.

Mutual Fund is further divided into two parts

Equity Mutual Fund

Debts Mutual Fund

Before Diving into the taxation part first we want to attract our reader’s attention towards the meaning of

both types of Mutual Fund.

EQUITY MUTUAL FUNDS

Equity mutual fund means a fund where the investible corpus is invested by way of equity shares in Indian

companies to the extent of more than 65% of the total proceeds of the fund, so even balanced funds will be

categorized in Equity Funds.

DEBT MUTUAL FUNDS

All the other funds which do not fit into the definition of Equity Mutual Funds, including Fund of Funds

(mutual funds which invests in other funds) and International Funds (funds which have more than 35%

exposure to international equities) will be kept under debt category for tax purpose.

TAXATION ON MUTUAL FUNDS UNDER CAPITAL GAIN IN INDIA

CAPITAL GAIN TAX ON EQUITY MUTUAL FUNDS

The Capital Gain is divided into two parts according to holding period.

Long Term Capital Gain: If the holding period of Mutual Fund exceeds 1 year, then it is categorized as

Long Term asset and there will be no tax at the time of redemption of mutual fund units. Suppose you

invested 1 lakh in ITU Fund and sold it after 1 year for Rs. 1.4 lacs, then there will be no tax on the

appreciated value of ITU fund of Rs. 40,000.

LTCG is tax-free for equity mutual funds under section 10(38).

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Short Term Capital Gain: If the mutual funds are held for less than 1 year i.e. you bought and sold

mutual fund within a year, then it is categorized under Short Term asset and the Capital Gain arises shall

be taxable @ 15% under section 111A of Income Tax Act.

In the above example, if you had sold ITU fund within 1 year then there will be tax liability of Rs. 6,000

(15% on Rs. 40,000) as Short Term Capital Gain.

Note for NRIs: Long Term Capital Gain is also exempted for NRIs but in case of Short Term Capital Gain

there will be a TDS (tax deducted at source). Which means Tax will be deducted by Mutual Fund

Company before paying redemption (sell) amount, which is 15%.

CAPITAL GAIN TAX ON DEBT MUTUAL FUNDS

Short Term Capital Gain: The gain arises due to redemption of debt mutual fund within 3 year

(Earlier 1 year)shall be added in the income of investor and tax will be charged at the rate according to the

tax slab.

Suppose Mr. Sanyam has Income from house property Rs. 3 lacs and income from debt mutual fund Rs.

30,000. Then the total tax shall be 10.30% (10% slab rate + 3% Cess) on Rs. 1,30,000 (Rs. 3,00,000 + Rs.

30,000 – Rs. 2,00,000) i.e. Rs. 13,390.

Long Term Capital Gain: The benefit of exemption under section 10(38) is not available in debt

mutual fund. Any long term gain arises from the sell/redemption of debt mutual funds shall be taxable at

the rate:

With Indexation – 20% + 3% Cess

Note for NRIs – NRIs will receive their redemption amount only after tax:

Short Term – 30% TDS + 3% Cess

Long Term – 20% TDS + 3% Cess

TAXATION OF DIVIDEND PAYING MUTUAL FUNDS

TAX ON DIVIDEND PAYING EQUITY MUTUAL FUNDS:

The dividend received in hands of unit holder for an equity mutual fund is completely tax free. The

dividend is also tax free to the mutual fund house. This means, the fund house is also not liable to pay any

tax on the dividend received. Thus for equity mutual fund, dividend is tax free for both—unit holder and

fund house.

TAX ON DIVIDEND PAYING DEBT MUTUAL FUNDS:

The dividend income received by a unit holder on his debt mutual fund is also tax free. But, the mutual

fund company has to pay a dividend distribution tax (DDT) before distributing this income to its

investors.

Here’s a broad summary table of the information covered in the article above.

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Type of Mutual Fund

Definition of Short term & Long term

Short term Cap gain Treatment

Long term Cap gain Treatment

Dividend Distribution Tax (DDT)(paid by MF house/company)

Equity

Mutual

Funds

Less than 365 days

is Short Term.

15% taxation

under section

111A

Nil

(Exemption u

nder section

10(38)

Nil (No DDT

Payable as per

section 115R)

365 days or more is

Long Term.

Debt

Mutual

Funds(no

n-Liquid

schemes)

Less than 3 years is

Short Term. Taxed as per

individual tax

slab of the

investor

10% without

indexation

OR 20% with

indexation,

plus 3% cess

12.5% plus 5%

surcharge plus 3%

cess, totally

13.519%(under

section 115R)

3 years or more is

Long Term.

Money

Market

and Liquid

Schemes

Less than 365 days

is Short Term. Taxed as per

individual tax

slab of the

investor

10% without

indexation OR

20% with

indexation,

plus 3% cess

25% plus 5%

surcharge plus 3%

cess, totally 27.038%

365 days or more is

Long Term.

Gold ETFs

Same as Debt

Mutual Funds

Same as Debt

Mutual Funds

Same as Debt

Mutual Funds

Same as Debt

Mutual Funds

It is important to have an understanding of DDT, as it is investors who have to bear burden of such

taxes.

The rates of DDT on Debt Mutual Fund are as follows:

For an individual / HUF and NRI, DDT is 13.519% (12.5% + 5% surcharge + 3% cess).

DDT for money market & liquid MF

A liquid / Money Market scheme attract more DDT than a normal debt MF, and are taxed at the rate 25 %

plus surcharge (5%) and education cess (3%), which effectively amounts to 27.038%.

Type of scheme Rate of DDT for individuals, HUF & NRI

Equity oriented MF schemes Nil

Debt schemes 13.519%

Liquid / money market schemes 27.038

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In addition to DDT, a scheme also pays securities transaction tax at the applicable rates (0.1% for FY12-

13) at the time of buying and selling equity shares or derivatives on the recognized stock exchange.

I tried my best to compile all information about taxation of mutual funds, Please do let me know if you see

any errors or have any queries!!!