Mutual Funds: How Young Professionals Can Save on Taxes

Millennials comprised about 54% of the 1.6 crore new mutual fund investors added from 2019 to 2023, as per the data of Computer Age Management Services (CAMS), a registrar and transfer agency.

Apart from other benefits such as diversification and ease of investing, investors in mutual funds could also gain through saving taxes.

Take, for instance, equity-linked saving schemes (ELSS), also referred to as tax-saving mutual funds, which are equity fund that offers tax-saving benefits under Section 80C of the Income-tax Act (ITA), 1961. A tax deduction of up to Rs 1.5 lakh can be sought through investing in ELSS, which has a lock-in period of three years.

The units of ELSS can be suitably redeemed at the end of their lock-in periods at the existing Net Asset Value (NAV).

Apart from the young professionals, women formed a sizeable part of about 26% of the 1.6 crore new investors, as per the CAMS report.

The positive market sentiments, push to awareness campaigns, extending digital access, and simplified know-your-client (KYC) procedures are a few of the factors that have emerged as the draw toward investing in mutual funds.

The tax-saving mutual fund schemes accumulate money from various investors and invest in the stock market.

A NOTE ON EQUITY MUTUAL FUNDS

Equity mutual funds are schemes that invest about 65% of their corpus in equities or equity-linked investment instruments. Short-term capital gains (STCGs) or long-term capital gains (LTCGs) are realised as per the holding period of the equity investments.

STCGs are realised in case an investor redeems their investment in a span of up to one year of investment. It is taxed at a flat rate of 15% irrespective of an investor’s income tax slab.

Similarly, LTCGs will be realised in case the investment is redeemed after holding the mutual fund units for more than a year. Equity fund investors tend to get tax benefits for LTCG, which is capital gains up to Rs 1 lakh in a particular financial year will be tax-exempt.

After capital gains go over this threshold, investors have to shell out a 10% tax on the excess amount with no indexation benefits.

EYE ON DEBT FUNDS

Debt mutual funds are schemes that are known to invest in fixed-income instruments such as government securities (G-Secs), corporate bonds, money market instruments, and corporate debt securities, which generate capital appreciation.

As per the Union Budget for financial year (FY) 2023-24, LTCG taxation on debt funds will not be applicable after April 1, 2023. Both short-term and long-term investments in debt fund schemes will be taxed as per the income tax slab rate of an investor.

There is a misconception that debt mutual fund taxation has become akin to the taxation of fixed deposits (FDs) at banks. However, there is a difference that makes debt funds a bit more attractive investment option as compared to FDs.

Typically, bank FD interest taxation is related to the method of accounting followed by a taxpayer. However, banks tend to deduct tax at source (TDS) from interest payouts of FD schemes on an annual basis.

On the other hand, debt fund investors have to pay capital gains tax only when they go in for redemption of their units or transfer their investment.

Additionally, it is possible to offset short-term capital loss arising from debt funds during the filing of Income-tax Returns (ITR). This would lead to a subsequent reduction in taxable income under the head ‘income from capital gains’.