Investing in Mutual Funds is one of the widely accepted options for creating wealth systematically. Mutual funds also subject the gains to taxation. There is general awareness, along with an investor’s understanding of how taxes are charged on mutual fund profit whether by a single investment or through SIP (Systematic Investment Plan); upon such understanding rests the necessity for adequate financial planning. Knowing the taxation rules becomes important looking at the fund type, hold period, and nature of gains as long term or short term.
Understanding Profits from Mutual Funds
If there is a profit from the mutual funds, a person might have gotten dividends or might have sold units at a higher price than what he bought the unit against. Such profits get capitalized gains. The tax treatment of such gains will depend on the following two factors:
- Type of mutual fund-equity or debt.
- Period during which these mutual fund units are held before selling them.
The holding period is very important in clarifying whether your gain will be treated as long-term or short-term.
Short Term Capital Gains
By definition, the term short term implies that you sell your mutual fund units before the expiry of a certain holding period. Such shortening of the terms to determine for a holding period to hold the investment different for equity and debt funds is thus:
Equity funds: If the holding period is less than 12 months, the short term capital gain appears.
Debt funds: If the units were held for less than thirty-six months, gain could be termed short term.
Thus, the tax rates for these short-term capital gains are as follows:
For equity funds, the gains fall under the subhead of Income tax at the rate of 15%.
For debt funds, it is added up in your total income and thus taxed as per your applicable income tax slab rate.
Every SIP installment considered regular investment under the usual proposition of any other investment is treated as a separate investment. The holding period of every SIP contribution is therefore calculated from the date of investment.
Long-Term Capital Gains (LTCG)
LTCG arises when you sell mutual fund units after a certain holding period. For long-term capital gains, the holding period is as under:
More than 12 months for equity funds.
More than 36 months for debt funds.
Long-term capital gains are taxed in the following manner for equity mutual funds: Such gains are taxed at 10% without indexation above ₹1 lakh in a financial year. Gains below ₹1 lakh are exempted.
For debt mutual funds, long-term gains are taxed at the investor’s income tax slab rate as per the recent changes in taxation norms.
Investing via SIPs also signifies separate treatment for each SIP for the one-year or three-year clock, thus making it important to keep track of dates of investment before redeeming units.
Impact of a Dividend on Tax
Previously, all dividends from mutual funds that are distributed to the investor don’t include taxes. But now, under the new formula, dividends are taxed following the slab rate of each investor’s income tax. A TDS (Tax Deducted at Source) of 10% will be deducted by the Asset Management Company from the dividends that are above 5000 rupees within a financial year.
The investors who opt for the growth option will avoid receiving dividends at regular intervals and would be taxed only while they redeem the units. This gives the investment a better compounding effect without the tax deduction at regular intervals.
SIP Investment Taxation
SIP investment must take special care with each holding period. Each SIP is treated as a separate investment for tax considerations. For example, by investing 5,000 every month in one equity fund, your investment of January 2023 will only become long term around January 2024, your February investment in 2023 gets very long around February 2024, and so on.
FIFO is applied during redemptions, which broadly entails that the earliest purchased unit will be sold first to get short-term or long-term status.
How to Calculate Gains from Mutual Funds
To obtain capital gains, the purchase value will be subtracted from the redemption value.
Capital Gain = Redemption Value – Purchase Value
The same rules apply to systematic redemptions such as a SWP. Each withdrawal is analyzed independently, and the criteria must be applied to find out whether it enters LTCG or STCG.
To get one’s tax liability estimated based on fund type, holding period, and amount of investment, you may use calculators available on financial platforms or in a Best Mutual Funds App.
Mutual Fund Tax Saving Tips
Hold Investments Longer. Longer durations will increase the time the STCG is converted into LTCG and hence will have a more favorable treatment regarding taxes.
Proper SIP Date Records: Be diligent of all those SIPs and their maturity dates.
Use Growth Option: As for the tax, better growth option than dividend option.
Offset Losses: Reduce taxable income by offsetting capital gains against capital losses incurred from other investments.
With accurate tax planning, the best way of ensuring that one retains the maximum amount post-tax earnings from mutual fund investments is followed.
Conclusion
Gaining knowledge about the tax on mutual fund gains should help investors make good decisions concerning investments, withdrawals, and redemptions. Perhaps the most influencing aspects of overall returns especially for SIP investors are LTCG and STCG. The cooperative functioning of a reliable Best Mutual Funds App lets you trace your investments, compute taxes, and judge the appropriateness of your redemptions. Tax knowledge and timing risks could be very useful for investors to manage their mutual fund portfolio and align it with their long-term financial goals.