What are the taxation changes on mutual funds?
The Union Budget 2024 had a full set of changes introduced on how income from mutual funds, ETFs, and Fund of Funds are taxed under the head capital gains. Apart from trying to streamline the tax rates, the Union Budget 2024’s announcements also made tweaks to last year’s tax rules that were unfavourable to ETFs and Fund of Funds.
These changes have streamlined the taxation of mutual funds and other fund investments a fair bit. Let us look at what the income tax regime for mutual funds now looks like.
Income Tax on capital gains from mutual funds
The new tax rules have two simple rates for taxing capital gains. Short-term capital gains on certain assets will be taxed at 20% and long-term capital gains on all assets will be at 12.5%.
Also, the holding period has been streamlined for both long-term and short-term capital gains. The general rule is that an asset (mutual fund units) held for less than 2 years is a short-term capital asset, and beyond two years it’s a long-term capital asset. This rule changes if you hold equity mutual fund units, then the rule for short-term is less than one year, and for long-term is beyond 1 year or 12 months. The tax rate for equity mutual fund units is 20% for short-term capital gains, and 12.5% for long-term capital gains. There is no benefit of indexation given for long-term capital gains.
This means that units of debt funds, gold ETFs, and fund of funds will be classified as short-term if you sell them after holding them for less than two years. Beyond two years, they will be classified as long-term.
However, if you hold debt mutual fund units (or ETFs), the taxation is different. Capital gains on sale of debt mutual fund units are taxed at the same rate—your tax slab. This means that your capital gains will be taxed as short-term capital gains no matter your holding period.
For units of a gold mutual fund or ETFs and fund of funds, the tax rate is 20% for short-term capital gains, and 12.5% for long-term capital gains, without indexation.
| Asset | Short-term capital gains tax rate | Long-term capital gains tax rate |
|---|---|---|
| Equity mutual fund or ETF units | 20% | 12.5% |
| Debt mutual fund units | Taxed at slab rate without considering holding period for both short-term and long-term | |
| Gold ETF units | 20%* | 12.5%* |
| Units of fund of funds | 20%* | 12.5%* |
* This tax rate will be applicable only from April 1, 2025. For FY25, the tax rate will be slab rate whether the gains are short-term or long-term.
Are the tax rates simplified?
To an extent, the tax rates are simplified for mutual funds, ETFs and fund of funds. But the fact that the change in rates for units of gold mutual fund (and ETFs) and fund of funds will be applicable only from next financial year, is still a little complex. This might delay many investors sell decision in these funds by a year. It is not clear why this was retained for the current financial year, when the intent was to streamline the rates.
In all, the new regime will become simpler from April 1, 2025. Till then, there is still some complexity left in the way mutual fund units are taxed.
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