Mutual Fund Taxation: LTCG, STCG, and Tax Saving Strategies
Complete guide to mutual fund taxation with examples and tips
Written by
CA Ashama Rajawat
Types of Mutual Funds for Tax
For taxation purposes, mutual funds are classified into two categories:
Equity Funds
>65% invested in Indian equities
*Above ₹1.25 lakh per year
Debt Funds
<65% in equities (bonds, FDs, etc.)
Equity Mutual Fund Taxation
Detailed Breakdown
Short-term Capital Gains (STCG)
- • Holding period: Less than 12 months
- • Tax rate: 15% (flat rate)
- • Plus: 4% cess = 15.6% total
Long-term Capital Gains (LTCG)
- • Holding period: More than 12 months
- • Exemption: First ₹1,25,000 per year
- • Tax rate: 10% on gains above ₹1.25L
- • Plus: 4% cess = 10.4% total
- • No indexation benefit
Example Calculation
Investment: ₹5,00,000 (held for 15 months)
Redemption: ₹7,50,000
Gain: ₹2,50,000
Less: LTCG Exemption: ₹1,25,000
Taxable LTCG: ₹1,25,000
Tax @ 10%: ₹12,500
Debt Mutual Fund Taxation
| Holding Period | Type | Tax Rate |
|---|---|---|
| < 36 months | STCG | As per income tax slab (up to 30%) |
| > 36 months | LTCG | 20% with indexation benefit |
Indexation Benefit Example
Investment in 2020: ₹5,00,000 (CII: 301)
Redemption in 2024: ₹7,00,000 (CII: 363)
Indexed Cost: ₹5,00,000 × (363/301) = ₹6,03,000
Taxable Gain: ₹7,00,000 - ₹6,03,000 = ₹97,000
Tax @ 20%: ₹19,400
Without indexation, tax would be ₹40,000!
Tax-Saving Strategies
1. Hold for Long-Term
Equity funds: Hold for 12+ months to get ₹1.25L exemption and pay only 10% tax (vs 15.6% STCG)
2. Harvest Tax-Loss
Sell losing investments before year-end to offset gains from profitable investments
Profit from Fund A: ₹2,00,000
Loss from Fund B: -₹50,000
Net Taxable Gain: ₹1,50,000
3. ELSS for Section 80C
Invest in ELSS (Equity Linked Savings Scheme) to get deduction up to ₹1.5 lakh under Section 80C. Lock-in period: 3 years only!
4. Spread Withdrawals
Keep LTCG below ₹1.25 lakh per year to enjoy zero tax on equity mutual funds
5. SWP for Regular Income
Use Systematic Withdrawal Plan instead of dividends. Dividends are taxed as per slab, but SWP only capital gains portion is taxed
Dividend Taxation
From April 2020, dividends from mutual funds are taxable in the hands of investors as per their income tax slab. Earlier, DDT (Dividend Distribution Tax) was deducted by the fund.
Important Note
TDS of 10% is deducted if dividend exceeds ₹5,000 in a financial year
Key Takeaways
- ✓Equity funds: More tax-efficient for long-term wealth creation
- ✓Debt funds: Indexation benefit reduces tax on long-term gains
- ✓Always maintain holding period records for accurate tax calculation
- ✓Report all mutual fund transactions in ITR, even if no tax is due
Conclusion
Understanding mutual fund taxation helps you make informed investment decisions and optimize your tax liability. Combine tax efficiency with your investment goals for maximum returns.