Budget leaves MFs gasping

The Rs 1.4 lakh crore mutual fund industry is hyper-ventilating after a hard read of the Budget papers. The reasons: Firstly, there is a lac...

The Rs 1.4 lakh crore mutual fund industry is hyper-ventilating after a hard read of the Budget papers. The reasons: Firstly, there is a lack of clarity on whether the mutual fund units would come under the new capital gains tax rules. Secondly, the MF industry is uncertain about paying the transaction tax as buyers on the stock exchange. Three, the transaction tax will harm the debt deals, pushing up costs substantially.

And the lobbying has already begun.

A.P. Kurien, chairman of the Association of Mutual Funds in India said, 8216;8216;We want the definition of 8216;listed securities8217; to include mutual funds units to take advantage of the new capital gains tax rules.8217;8217; Other items on the list of demands are the removal of the turnover tax from debt instruments and bringing forward the date to September 1, 2004 from April this year for bifurcating the dividend between a retail buyer and a corporate buyer in order to abide by the differential tax treatment.

The Budget proposals have hiked the dividend distribution tax on corporates to 20 per cent from 12.5 per cent. The funds may have a case as a Rs 1 lakh investment directly in shares will see an expenditure of about Rs 1,160 as brokerage and transaction fee. If you exit within a year at, say a profit of Rs 20,000, you pay Rs 2,000 as a short term capital gains tax. If you sell after a year at a Rs 30,000 profit, you pay no tax. Total expenses over all options is Rs 3,160.

You buy mutual fund units worth Rs 1 lakh. You pay Rs 2,000 an entry load. Each year that you hold you pay an additional Rs 1,960 on the reduced corpus of Rs 98,000 after the brokerage and tax as an annual fee if the fund8217;s expense ratio is 2 per cent. If you sell within a year at a profit of Rs 20,000 and your tax bracket is 30.6 per cent, you pay Rs 6,120 as tax. If you hold on for a year and then sell at a profit of Rs 30,000, you pay a long-term capital gains of Rs 3,000. The total expense over all options is Rs 13,080 and the amount to be paid without the tax arbitrate is Rs 5,960.

While investors have been willing to pay a higher cost to the funds to manage their money in terms of an annual fee, the tax arbitrate is going to cost the funds big time.