Mutual Funds - Taxation
Mutual funds are tax efficient investment avenues. For instance:
· Dividend income received from the Mutual Fund is exempt from tax in the hands of unit holder;
· No tax is deducted at source for dividend income credited or paid by funds to its unit holders;
· No tax is deducted on capital gains in case of redemptions made by resident unit holder;
· The income earned by the mutual is exempt from tax, however in certain cases mutual fund has to pay dividend distribution tax;
· In case of an individual or HUF, investing in Equity Linked Savings Schemes (ELSSs) an amount invested upto Rs.1 lakh in ELSSs is allowable as deductions from the taxable income in the year of investment. However, the investment is locked for three years pursuant to the nature of ELSSs.
Capital gains tax
Investors are required to pay tax if they make capital gains from the sale of mutual fund units. The capital gains may be both long term and short term in nature.
Capital gains are liable to tax based on:
· The duration for which the Units of the Fund were held prior to redemption; and
· The manner in which the redemption/switch is effected.
Gains arising on transfer of Units (say by sale/redemption/switch) held for a period in excess of 12 months are classified as long-term capital gains; in any other case, the gains are classified as short-term capital gains.
Long Term Capital Gains:
Equity Oriented Fund:
Long-term capital gains arising on redemption of units of an 'equity oriented fund', on which Security Transaction Tax (STT) has been paid, are exempt from income-tax in the hands of unit holders.
Other Funds:
In case of other funds Long Term Capital gains arising on redemption of Units are taxable at the rate of 20% (plus applicable surcharge and education cess) after claiming indexation benefit.
Alternatively, the Unit Holder may offer the long term capital gains realised on transfer of Units to tax at the rate of 10% (plus applicable surcharge and education cess), without claiming any indexation benefit.
In case of an individual or a HUF, being a resident, where the total income as reduced by such long term capital gains is below the maximum amount, which is not chargeable to income tax, then, such long term capital gain shall be reduced by the amount by which the total income as so reduced falls short of the maximum amount which is not chargeable to income tax and the tax on the balance of such long term capital gains shall be computed at the rate of 20% (plus applicable surcharge and education cess) after claiming indexation benefit.
Long term capital gains realised by FIIs/sub-accounts on transfer of Units are taxable at the rate of 10% (plus applicable surcharge and education cess), and the FIIs / sub-accounts will not be permitted to claim indexation benefit.
Short Term Capital Gains:
Equity Oriented Fund:
Short term capital gains arising on redemption of units of 'equity oriented funds' on which STT has been paid are taxable at the rate of 10% (plus applicable surcharge and education cess).
In case of an individual or a Hindu Undivided Family ('HUF'), being a resident, where the total income as reduced by such short term capital gains is below the maximum amount, which is not chargeable to income tax, then, such short term capital gain shall be reduced by the amount by which the total income as so reduced falls short of the maximum amount which is not chargeable to income-tax and the tax on the balance of such short-term capital gains shall be computed at the rate of 10% (plus applicable surcharge and education cess).
Other Funds:
In case of Other Funds Short term capital gains realised on transfer of Units are taxable at the normal rates applicable to the Unit Holders. Surcharge and education cess would apply separately.
In case of an individual or a HUF, being a resident, where the total income as reduced by such short term capital gains is below the maximum amount, which is not chargeable to income tax, then, such short term capital gain shall be reduced by the amount by which the total income as so reduced falls short of the maximum amount which is not chargeable to income tax and the tax on the balance of such short term capital gains shall be computed at the normal rates applicable to the Unit Holders.
Short-term capital gains realised by FIIs/sub-accounts on transfer of Units are taxable at the rate of 30% (plus applicable surcharge and education cess).
Dividend distribution tax (DDT)
· No distribution tax in is payable on income distributed by Equity Oriented Fund;
· Any income distributed by a mutual fund (other than from Equity Oriented Fund) to its unit holders shall be chargeable to tax in the hands of the mutual fund and the mutual fund will be liable to pay tax on the income distributed to its unit holders at the rate of:
§ *12.5% (plus applicable surcharge and education cess) on income distributed by the mutual fund to its unit holders who are individuals or HUFs; and
§ *20% (plus applicable surcharge ad education cess) on income distributed by the mutual fund to all other categories of unit holders
*The Finance Bill, 2007 proposes to increase the rate of additional tax payable on income distributed by a liquid fund to its unit holders to 25% (plus applicable surcharge and education cess).
For the Unit Holder it means that the Fund will be exempt from tax on its income earned, but will be liable to pay distribution tax on income distributed to its Unit Holders in the manner described above. While the dividend income received in the hands of the unit holder is exempt from tax in their hands.
Tax treaty benefits:
Section 90 of the Act provides that taxation of non-resident investors would be governed by the provisions of the Act, or those of a Double Taxation Avoidance Agreement ('DTAA') that the Government of India has entered into with the Government of any other country of which the non-resident investors are tax resident. The provisions of the DTAA prevail over those of the Act if they are more beneficial to the taxpayer. Hence, the above rates are subject to applicable DTAA benefits, if applicable.
| Nature of person | Surcharge |
| Individuals, HUFs, body of individuals and association of persons | 10% surcharge on tax payable if the total taxable income exceeds Rs 10,00,000 |
| Artificial juridical persons | 10% surcharge on tax payable |
| Firms and resident corporate taxpayers | **10% surcharge on tax payable |
| Non-resident corporate tax payers | **2.5% surcharge on tax payable |
| Co-operative societies and local authorities | No surcharge is applicable |
An education cess of ***2% is levied on all taxpayers - the education cess is to be paid on the tax payable, plus surcharge. Accordingly, the rates of tax and TDS rates mentioned above will be increased by the applicable surcharge and education cess.
*** The Finance Bill, 2007 proposes to increase the rate of levy of education cess from the existing 2% to 3%.
Wealth tax
Units in the Fund are not treated as 'assets' as defined in section 2(ea) of the Wealth Tax Act, 1957. Hence, they would not be liable to wealth tax.
Please note:
· Please refer to the clause on "Tax Benefits of investing in the Scheme" as disclosed in the Offer Document.
· The tax incidence to Unit Holders could vary materially based on characterization of income (ie capital gains versus business profits) accruing to them in the Fund.
· In the context of international investors, there can be no assurance that tax treaty provisions, even if more favourable, will apply in determining their liability to tax in India.
· Tax rates in India may change from time to time. Any such changes may adversely affect the taxation of the Fund and / or the Unit Holders in the Fund.
In view of the particularized nature of tax consequences, each investor is advised to consult its own tax advisor with respect to specific tax consequences of being a Unit Holder in the Fund.
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