Taxation of Mutual Funds

SEBI requires AMCs to maintain monthly portfolio disclosures. The Income Tax Act considers a fund equity-oriented if it invests a minimum of 65% of total proceeds in equity shares of domestic companies. This is computed as an average of monthly allocations. If the average dips below 65%, the fund loses equity tax status for that period.

Because a Fund of Fund holds units of another mutual fund scheme, not direct equity shares. The Income Tax Act specifically requires 65% investment in equity shares of domestic companies. MF units are not equity shares, so FoFs are classified as non-equity for tax purposes regardless of the underlying fund type.

Yes, for investors in the 30% tax bracket, arbitrage funds are significantly more tax-efficient. Returns are similar (6-7%), but liquid fund gains held under 24 months are taxed at slab rate (up to 30%), while arbitrage fund gains held over 12 months qualify for equity LTCG at 12.5% with a Rs 1.25 lakh exemption. This can save over 17% in tax.

From April 1, 2023, "specified mutual funds" — those with less than 35% equity allocation — lost the benefit of indexation and LTCG treatment entirely under Section 50AA. Regardless of holding period, gains are taxed at the investor's income tax slab rate. This affected most pure debt funds, liquid funds, and money market funds. Note: Gold ETFs and international funds were subsequently given a 24-month LTCG holding period at 12.5% under Budget 2024 provisions.

Gold ETFs, gold fund of funds, and silver ETFs are classified as non-equity. Post Budget 2024, Gold ETFs and similar funds have a 24-month holding period for LTCG, taxed at 12.5% without indexation. STCG (within 24 months) is taxed at the investor's slab rate. The earlier benefit of LTCG with indexation after 3 years has been removed.

Yes, post July 2024 Budget, equity STCG is a flat 20% regardless of the investor's income tax slab. However, surcharge may apply based on total income levels, and 4% Health & Education Cess is always applicable on top. So the effective rate could be slightly higher than 20% for high-income individuals.

A switch is treated as a redemption from the first fund and a fresh purchase in the second fund. If the switch happens before 12 months, the gain from the first fund is STCG taxed at 20%. The holding period of the second fund starts fresh from the switch date.

No. The Rs 1.25 lakh exemption applies only to equity LTCG (long-term capital gains). There is no exemption limit for STCG. Even a gain of Rs 100 on equity funds held for less than 12 months is taxable at 20%.