Mutual Fund Income Tax: Capital Gains, Equity, & Debt
Describe mutual funds
In order to buy a diversified portfolio of stocks, bonds, and other securities, mutual funds aggregate money from many different investors, which is the first thing you should know about them. The performance of the underlying securities in the mutual fund’s portfolio determines the value of your investment.
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What does mutual fund income tax entail?
taxes that must be paid upon the gainful sale of mutual fund units. A mutual fund scheme’s IDCW (Income Distribution/Capital Withdrawal) option will expose investors to taxes based on their appropriate tax slab rates.
Taxation of debt and mutual fund income
Beginning on April 1, 2023, the income from debt-oriented mutual funds is subject to tax at the applicable income tax rate for the investor. Previously, section 112 of the Income Tax Act’s long-term capital gains tax rate of 20% with indexation benefits applied to income from debt mutual funds held for more than three years.
Various mutual fund types
Mutual funds come in two basic categories: tax-exempt and taxable. A mutual fund that produces dividends and capital gains is taxed. Unless the mutual fund is maintained in a tax-advantaged account, the income from these mutual funds is subject to federal & state income tax.
The mutual funds that invest in municipal bonds, which state and local governments issue to finance public projects, on the other hand, are tax-exempt. These bonds’ earnings are typically not subject to federal or state income taxes. Tax-exempt mutual funds may nonetheless be subject to the alternative minimum tax (AMT), a different tax scheme that is applicable to some high-income persons.
The variables that affect mutual fund taxes
The tax on mutual funds is determined by a number of factors, including
Fund type: Debt-oriented & equity mutual funds are the two categories of mutual funds that are subject to taxes.
Dividend: As a share of their income, mutual fund firms pay dividends to investors. The investor is not required to sell any of their possessions.
Capital gains: Capital gains are profits made by investors when they sell their capital assets for more money than they originally paid for them.
Holding period: In accordance with Indian income tax legislation, an investor is subject to a lower tax rate if an investment is held for a long time. Therefore, the holding duration can have an impact on the capital gains tax rate, with a longer holding period leading to a smaller tax obligation.
Dividend taxation
The Finance Act of 2020 removed the Dividend Distribution Tax (DDT) on distributions from mutual funds as of March 31, 2020. As a result, investors must now pay taxes on their mutual fund dividend income as part of their “income from other sources” depending on their tax status.
In addition, section 194K requires a 10% TDS (tax deducted at source) to be imposed to dividends paid out by mutual funds to investors if the total amount paid to an individual investor in a fiscal year exceeds Rs 5,000. Investors’ TDS can be deducted by AMCs, allowing them to pay only the balance due when submitting their taxes.
How are earnings from mutual funds taxed?
Mutual fund gains are categorized as either short-term or long-term capital gains for units.
What is the mutual fund capital gains tax?
Depending on the type of mutual fund and the length of the holding period, capital gains are taxed. Depending on how long an asset has been held, capital gains are separated into long-term (LTCG) and short-term (STCG) categories.
For tax purposes, equity and debt plans have different definitions of long and short holding periods. The holding time must be at least 12 months for capital gains to be deemed long-term for both equity- and debt-oriented schemes. The holding times necessary to categories capital gains as long-term or short-term are listed in the following table.
| Fund Type | LTCG Holding Period | STCG Holding Period |
| Debt Funds | Deemed to be short term irrespective of the holding period | Less than 36 months |
| Equity Funds | More than 12 months | Less than 12 months |
| Hybrid Funds | More than 12 months | Less than 12 months |
Taxes on equities and mutual fund income
For taxation purposes, a mutual fund is deemed to be an equity-orient scheme if at least 65% of its corpus is invested in Indian stocks or securities that bear a resemblance to Indian stocks. All other funds are viewed as debt-based schemes at the same time.
Previously, under section 10(38) of the Income Tax Act, long-term capital gains (LTCG) on the sale of stock shares or equity-oriented mutual fund units were excluded. However, this changed in 2018. According to section 112A of the Income Tax Act, LTCG on mutual funds (equity-oriented schemes) is now taxed at a rate of 10% on capital gains over Rs 1 lakh. For instance, your tax will be assessed on the Rs 20,000 at 10% (plus any relevant cess and surcharge). If you have an LTCG of Rs 1,20,000 from an equity-oriented scheme in a fiscal year.
As stated in section 111A of the Income Tax Act, short-term capital gains (STCG). On the sale of units of equity-oriented mutual funds are taxed at a rate of 15%. For instance, as the Rs 1 lakh exemption for LTCG does not apply to STCG. Your tax will be calculated on the full Rs 1,30,000 at 15% (plus relevant cess and surcharge). This is because you received STCG of Rs 1,30,000 from an equity-oriented programme within a fiscal year.
How to lower my mutual fund tax liability?
Mutual funds permit, under certain circumstances, the offset and carryover of losses against gains. By using these provisions, investors may be able to receive tax reductions.
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