The Finance Minister Nirmala Sitharaman would present the Union Budget on February 01, 2021. You may be keenly watching the Union Budget 2021 if you put money in equity investments. The BSE Sensex has recovered from the March low of 25,639 points to cross the 50,000-mark on January 21, 2021, for the first time in history.
You would find around 1 crore Demat accounts opened last year, as many first-time investors studied and managed stocks during the coronavirus lockdown. You may consider focusing on the Union Budget 2021 if you invest in equity mutual funds and other equity investments. It may determine the onward movement of the stock market. Let’s look at the expectations of equity investors from the Union Budget 2021.
Abolish the long-term capital gains tax on equity investments
You would incur the securities transaction tax or STT every time you buy and sell security such as equity shares. The securities transaction tax is a direct levy on the purchase and sale of securities listed on an exchange.
The securities transaction tax was introduced in 2004 to replace the long-term capital gains or LTCG tax on equity investments. However, LTCG tax on listed equity shares was reintroduced in Union Budget 2018, without abolishing the securities transaction tax.
You would find long-term in equity investments defined as a holding period of more than one year. You have to pay LTCG tax on long-term capital gains from listed equity shares above Rs 1 lakh per financial year at 10%, without the benefit of indexation. It resulted in double taxation, which could prevent new investors from entering the equity market.
However, the government may consider abolishing the long-term capital gains tax during the Union Budget 2021 to encourage new investors to put money in the stock market. The LTCG tax, while not yielding meaningful revenue to the government, has damaged India’s capital markets. It would help you focus on the risk and return from equity investments, instead of selecting equity funds based on tax considerations.
Introduce indexation benefit for equity investments
Indexation helps you pay taxes on the real value of your investments, rather than the nominal value. The government currently offers the indexation benefit on long-term capital gains from debt funds, gold and real estate. However, long-term capital gains from equity investments are taxed at 10%, without the benefit of indexation.
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You don’t incur long-term capital gains or LTCG tax up to Rs 1 lakh from listed equity shares in a financial year. It encourages you to book profits every year on equity investments, rather than invest for the long-run. You will find equity investments offering inflation-beating return if you stay invested for the long term.
Investors expect the removal of LTCG tax on listed equity shares in the Union Budget 2021. However, many investors would still be happy if the government introduced the indexation benefit on long-term capital gains from equity investments during the Union Budget.
Restore uniformity in the tax treatment between equity products
You may consider switching mutual funds to transfer mutual fund units from one mutual fund scheme to another scheme within the same fund house. However, you would incur an exit load and capital gains tax while switching across mutual fund schemes.
For example, you may switch between the growth plan to a dividend plan or a regular plan to a mutual fund scheme’s direct plan. It is considered as a ‘transfer’ and is subject to capital gains tax.
Mutual funds allow you to switch from one mutual fund scheme to another, within the same mutual fund house. You would find the transaction treated as a redemption from the source scheme, and purchase for the destination scheme. You incur capital gains tax, even though the amount you have invested remains in the mutual fund scheme. It increases the cost of switching from one mutual fund scheme to another.
However, if you switch from one investment plan to another within the same ULIP (Unit-Linked Insurance Plan), it is not considered a ‘transfer’, and you don’t incur capital gains tax. The mutual fund industry expects tax parity for switch transactions to enjoy a level playing field.
The Union Budget could make the necessary changes in the Income Tax Act, where intra-scheme switching between mutual fund schemes is not considered a sell transaction. It would eliminate the undue tax advantage ULIPs enjoy over equity funds.
Tax deduction for mutual fund retirement plans
You may invest in pension plans offered by mutual funds or the National Pension System (NPS) for your retirement. You may put money in retirement plans of mutual funds called pension plans to enjoy the tax deduction up to Rs 1.5 lakh per year, under Section 80C of the Income Tax Act, 1961.
It has a five year lock-in period or up to retirement age, whichever is earlier. You may choose the appropriate asset allocation under the retirement plan of mutual funds, depending on your investment objectives and risk tolerance.
NPS is a government-sponsored pension scheme which encourages you to save for your retirement. It offers you options to invest in equities, corporate debt, government bonds and alternate investment funds.
You may opt for the auto choice, which has a pre-defined investment allocation depending on your age and risk profile. You could choose the active choice for NPS where you decide the asset allocation depending on your financial goals. You can invest up to 75% in equity through the active choice of the National Pension System. It permits you to withdraw a part of the corpus as a lump sum on retirement. You may buy an annuity plan with the remaining corpus to get regular income in retirement.
However, you get an additional tax deduction up to Rs 50,000 per financial year under Section 80CCD(1B), if you put money in the National Pension System. It is over and above the tax deduction of Rs 1.5 lakh per year under Section 80C of the Income Tax Act, 1961. Investors in mutual fund retirement plans expect an additional tax deduction under Section 80CCD(1B), to enjoy a level playing field with the National Pension System.
Rationalise TDS on mutual fund dividends
The dividends you obtained from mutual funds was tax-free up to 31 March 2020. However, after the Union Budget 2020, the dividends from mutual funds would be taxed as per your income tax slab.
However, the Finance Act 2020 also imposed TDS on the dividend distribution by mutual funds. If you earn dividends from mutual funds above Rs 5,000 per year, TDS is applicable at a standard rate of 7.5%.
Many investors believe this limit is too low as banks’ interest has a TDS-free limit of Rs 40,000 per financial year for individuals. It is Rs 50,000 per financial year for senior citizens. Investors want the government to hike the minimum dividend for TDS purposes from Rs 5,000 to at least Rs 40,000 per year to avoid unnecessary paperwork involved in refunds.
Investors expect the realignment of overall tax slabs and an increase in the standard deduction from Rs 50,000 a year to at least Rs 1 lakh in the Union Budget 2021. It would boost disposable income and encourage you to invest more money in the equity market.
You would find measures such as restoring uniformity in tax treatment across equity products and abolishing LTCG on equity investments, encouraging you to invest in equity for the long-term. The lockdown due to the coronavirus pandemic has encouraged investors to put money in equity investments. The Union Budget 2021 could sustain the momentum and propel the Sensex to greater heights.
For any clarifications/feedback on the topic, please contact the writer at cleyon.dsouza@cleartax.in
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