The upward trajectory in the equity market as well as a step to play safe with a diversified portfolio has in recent times increased the allocation to mutual fund investment class. And now that you are invested in mutual fund, you need to fully understand the taxation part on the investment as well as the income you draw from it. Plus if there are any ways to save on tax on return from this investment product:
First we will again put forth here that the SEBI in a bid to make mutual fund selection by investors more informed has re-classified the schemes. But for the taxation aspect, the schemes still are classified into two i.e. debt and equity.
Also, when it comes to plan choice, investors can either go with dividend option or growth option. Notably, in the growth option, the returns are re-invested into the scheme and the gains are realized by the investor after he redeems his investment whereas in the case of dividend plan option, the investor realizes the return from the investment over a period of time as dividends on some regular pre-defined period.
Taxation of Mutual fund returns
It is to be kept in mind when you choose the dividend option for mutual fund investment no tax applies on such dividend income whether it is debt or equity mutual fund category. But for the growth option, the taxation rules apply as follows:
1. Equity funds (Growth option): In case the redemption in such mutual fund scheme is made before the one-year period then short term capital gains tax is payable on any short term capital gains @ 15% apply on the gains plus there is a cess charge of 4% that makes the rate of taxation to be 15.60%.
However in case the units are sold or redeemed after a period of one year then with effect from the current financial year i.e. 2018-19, long term capital gains tax are applicable on gains of over Rs. 1 lakh @ 10% without indexation. Also, health and education cess and surcharge will apply.
This clause i.e notified via Section 112 A of the Finance Act 2018 is applicable after meeting certain conditions:
a. The transfer or buying or selling in such units should be executed on or after April 1, 2018.
b. Also the gains realized until January 31, 2018 on such schemes has been grandfathered i.e. for computing the likely gains on your mutual fund investment, the closing price of such units as on January 31, 2018 will be taken as the cost in respect of your equity mutual fund holding. The date of purchase though remains the same as the original date as when the mutual fund scheme was subscribed to.
2. Debt funds (Growth option): In case of debt funds with growth option, the holding period of less than 36 months accounts for you to pay short terms gains tax. The profits realized are added to the total taxable income and income tax is payable on it based on your income tax slab.
But in a case when the profits are realized after 36 months periods i.e. on redemption or sale of mutual fund units, long term capital gains implications arise @ 20% with indexation.
Ways to save tax on return or gains made on mutual fund redemption or sale
1. Choosing dividend option: It can be one option as there are no tax implications on the return from dividend plans in mutual fund scheme. However, there is no guarantee of investors earning dividend on such schemes. Also, in some of the cases, the return can go well below the returns from debt investments such as fixed deposits.
2. Invest in equity mutual fund for a long term: Equity class whether it be solely in equity or equity based instruments calls for long-term investments and as per the new section introduced in the Finance Act, 2018, a tax-free benefit is available on gains of up to Rs. 1,00,000. Here, to make gains, one should consider investing in top-rated mutual funds wherein one after a considerable period of time can expect capital appreciation on their held units.
3. When investing in debt funds stay put for more than 36 months: In case you are a moderate to low risk-taker, debt mutual fund category is suitable for you and while investing in such funds you need to stay invested for more than 3 years to avail the benefit of indexation as in the other scenario, your capital gains from debt mutual fund with a growth plan will be included to your total taxable income.