The Budget announcements of a higher capital gains tax for debt schemes of mutual funds and increasing the holding period is set to impact investors who typically invest in these schemes eyeing the relatively higher post-tax returns.
The long-term capital gains tax on debt schemes of mutual funds has been hiked to 20 per cent, and the minimum holding period raised to 36 months from 12 months in order to claim the benefit of long-term capital gains.
On Saturday, revenue secretary Shaktikanta Das suggested that the new tax rates may not be applicable for units redeemed before the Budget announcement on July 10, 2014 as against reports suggesting that all redemptions beginning April 1, 2014 would be taxed at the new rates.
Experts, however, feel that the decision is retrospective and all fresh redemptions of schemes purchased and held for less than 36 months will be treated as short-term gain and taxed at the marginal rate.
Earlier, long-term capital gains in debt schemes were taxed at 10 per cent (without indexation) and at 20 per cent (with indeaxation). Financial advisors and mutual fund players say investors have been flooding them with queries on the Budget proposals.
Industry insiders feel the decision to raise the minimum holding period takes away the attractiveness of the scheme since majority of the debt investment was made for 12-18 months where investors could get double indexation benefits being long-term in nature. “This will have a big impact as majority (over 85 per cent) of the debt investments were done for 12-18 months. Dividend money was invested into it by HNIs and even corporates who had held back their capex plans were investing in debt products of 12-18 months because of the tax arbitrage.
“Now all that money will get taxed at marginal tax rate generating higher revenue for the government. Only retail investors invested in products of 36 months and above stand to gain,” said the chief investment officer of a leading mutual fund requesting anonymity.
As on June 30, the assets under management (AUM) in close-ended income funds stood at Rs 1,73,967 crore, most of which will get directly impacted by the decision.
Even open-ended income funds which have an AUM of Rs 2,94,792 crore will get affected as most of the investments are less than 36 months. So an aggregate AUM of up to Rs 4,78,982 may be taxed at a higher rate going forward.
By this move, the government has taken away the option for short-term investors as there is no tax arbitrage vis-à-vis bank fixed deposits. In the long-term (36 months and above) though investors will continue to benefit by investing in debt schemes as against fixed deposits as the capital gains will be taxed at 20 per cent.
“There is, however, no clarity on whether the indexation benefit will continue or not,” said the CIO. If the indexation benefit is permitted then investors will continue to benefit significantly by investing for over three years especially if the interest rates and inflation continue to rule high.
“The real dampener is change in continued…