Long-term Tax Benefits Removed for Debt Mutual Funds
- March 25, 2023
- Posted by: OptimizeIAS Team
- Category: DPN Topics
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Long-term Tax Benefits Removed for Debt Mutual Funds
Subject :Economy
Concept :
- As per the amendments made in Budget 2023, no benefit of indexation for the calculation of long-term capital gains tax on debt mutual funds will be available for investments made on or after April 1, 2023.
About Debt mutual funds:
- Debt funds are mutual fund schemes which invest in fixed-income generating securities such as Commercial Papers (CP), Certificate of Deposit (CD), Corporate Bonds, T-Bills, government securities and other money market instruments.
- These instruments have a fixed maturity date and interest rate that the buyers could earn till the maturity of the security.
- They are considered to be less volatile than equity funds and are hence ideal for investors who are relatively risk-averse and are looking for stability in their investments.
Taxation on Debt Mutual Funds:
- When it comes to the taxation of debt mutual funds, the concept of indexation is applicable in long-term capital gains from such funds.
- You will incur a capital gain if the redemption value is higher than the amount you invested.
- Such capital gains will be considered long-term in debt mutual funds if the investment is redeemed after 3 years (36 months) from the date of investment.
- So, for example, if you invest Rs.1 lakh in debt funds and after 4 years you redeem the fund, which amounts to Rs.1.5 lakhs, the long-term capital gain incurred is Rs. 50,000.
- On this long-term capital gain, a long-term capital gain tax is payable.
- However, the tax is calculated after applying for the indexation benefit.
What is Indexation Benefit?
- Inflation reduces the purchasing power of money. So, at the time of redeeming any investment, inflation needs to be considered.
- For example, if you have invested Rs. 100 in Year 1 and get a return of Rs. 110 in Year 5, the return is not exactly Rs. 10.
- This is because the purchasing power of Rs. 110 would have reduced with time due to inflation.
- Indexation benefit is applied to the investment amount to tax your returns fairly, which factors in inflation.
- Basically, indexation helps you to calculate the new value of your investment, considering inflation and also help to get real capital gain.
Present Status of Indexation Benefit in Debt Mutual Funds:
- Currently, in debt mutual funds, the long-term capital gains are taxed @20% with indexation benefit.
Capital Gain tax
- The capital gains tax is the levy on the profit that an investor makes when an investment is sold. It is owed for the tax year during which the investment is sold.
- It applies to capital assets, which include stocks, bonds, digital assets like cryptocurrencies and NFTs, jewellery, coin collections, and real estate.
- Types of capital gain tax :
- Long-term Capital Gains Tax: It is a levy on the profits from the sale of assets held for more than a year. The rates are 0%, 15%, or 20%, depending on the tax bracket.
- Short-term Capital Gains Tax: It applies to assets held for a year or less and is taxed as ordinary income.
Change brought in through Finance Bill 2023:
- An amendment proposed through Finance Bill 2023 aims to remove the benefit of indexation available to debt mutual funds.
- As per the proposed amendment, no benefit of indexation will be provided to debt mutual fund investment made on or after 1st April, 2023.
- However, only those debt mutual funds will lose these benefits where equity investment in such schemes is less than 35 per cent.
- From 1st April onwards, such funds will be taxed at income tax rates as per an individual’s income.