Secure Your Future Wisely: Understanding Mutual Fund Taxes

Author name: Vipin Sharma

Created date: 16-04-2024

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Worried about the future? Working hard is key, but saving smartly is crucial. While traditional options like savings accounts struggle to keep up with inflation, mutual funds offer a tax-advantaged path to growth.

However, navigating the world of mutual funds without understanding their tax implications can be costly. Let's break down the basics:

The Tax Game:

Think of your mutual fund returns like delicious treats. But before you indulge, the taxman wants his share. The good news? He doesn't take everything! The type of treat (dividend or capital gain) and how long you held it (short-term or long-term) determine the tax bite.

• Dividend Income: When a fund distributes surplus profits to investors, it's considered dividend income. This income is added to your taxable income and taxed at your income tax slab rate.
• Capital Gains: When you sell your mutual fund units for a profit, that profit is called a capital gain. This is taxed differently depending on the fund type and holding period.

Fund Flavors & Tax Rates:

Equity Funds (The Risk Takers): Invest in stocks for higher returns but carry higher risk.

• Short-term capital gain (less than 12 months): Taxed at a flat 15%.
• Long-term capital gain (more than 12 months): Up to ?1 lakh is tax-free, anything above taxed at 10% without indexation benefits.

Debt Funds: Invest in bonds for lower risk and lower returns.

• Units purchased after 1 April 2024 always taxed at your income tax slab rate. 
• Units purchased before 1 April 2024 Short-term capital gain (less than 36 months): taxed at your income tax slab rate Long-term capital gain (more than 36 months): taxed at 20% with indexation benefits.

Hybrid Funds (The Blenders): Blend equity and debt for varying risk-return profiles.

Taxed based on their equity exposure:

• More than 65% equity: Follow equity fund rules.
• Less than 35% equity: Taxed at your income tax slab rate.
• More than 35% but less than 65% equity: Short-term (less than 36 months): Taxed at your income tax slab rate Long-term (more than 36 months): 20% with indexation benefits.

SIPs & Tax:

For investments through Systematic Investment Plans (SIPs), the First-In-First-Out (FIFO) method applies. Older units (held longer) get the long-term tax, while newer ones face the short-term tax. 

So as of now we think you have gained so much knowledge about mutual fund taxation and even if you have any doubt left, so let us make it clear with an example. 

Suppose you have invested 1 lakh RS in equity fund and 1lakh RS in debt fund and 1 lakh RS in other fund (in which equity is more than 35% but less than 65%), and we have considered same NAV (Net Asset Value) per unit is 10 RS now you have 10000 units of each fund and sell all mutual fund units at 20 RS per unit so now you have gained the profit of RS 1 lakh RS in each fund so for your understanding we have calculated the tax of all the funds in the table below.

Remember: 

• This is just a taste of the tax world. Consult a financial advisor for personalized advice. 
• Staying informed about tax changes is crucial. 
• Choose funds based on your risk tolerance and investment goals.