The rush to invest in mutual funds is enormous these days. Almost every top investment advisor is recommending buying into mutual fund schemes.
In India a lot of individuals still invest directly in the stock market and do not channelize their investment through the mutual fund route.
A few things happen when you invest through the mutual fund route. One is that you can choose the type of fund you want and second is you get tax benefits by investing in mutual funds. This would not be available if you invest directly in the stock market.
For example, you can get tax benefits by investing in Equity Linked Savings Schemes (ELSS) under Sec 80C of the Income Tax Act. This is not available for directly investing in the equity markets. Let's now highlight some other tax benefits that you get in mutual funds in India.
a) Dividend income is tax free
When you invest in an equity mutual fund the amount received by way of dividends is tax free in the hands of the investor. If you were to invest the same amount say in a bank deposit, you would be liable to pay taxes on the interest income earned depending on your tax bracket.
Therefore, it is advised to use the mutual fund route, especially when the markets are trading lower.
b) Indexation benefit for capital gains
When you invest in mutual funds and sell the units at a higher price, you can avail indexation benefits through the capital gains that you make.
c) Tax benefits under Sec 80C of the income tax act
Apart from this you get tax benefits under Sec 80C of the Income Tax Act. For example, an amount upto Rs 1.5 lakhs that is invested in mutual funds can be deducted from your total income for computing tax, if you invest in Equity Linked Savings Schemes.
To know more about ELSS click here
Risks associated with mutual funds
While investing in mutual funds your only consideration should not be the tax benefits. Just because you are getting tax benefits on mutual funds, it does not mean you should invest blindly. For one, you should invest for long term. Though many individuals suggest that you should not time the market, it would be foolhardy not to do so. If you ask me, if I would invest in mutual funds when the Sensex is at 28,000 points, my answer would be no, if you are investing a lumpsum.
If it's a Systematic Investment Plan you can still consider the same. Investing a lumpsum when the markets have risen is not a good proposition, especially when you are investing in equity linked mutual funds. If it's debt oriented mutual funds then it is a different proposition altogether.
In any case do not invest in mutual funds only because you get tax benefits like Sec 80C benefits.