How is mutual funds capital gain tax calculated?

Capital gain on mutual funds is referred to the profit that an investor makes by redeeming or selling the mutual fund unit. It can either be Short Term Capital Gain or a Long-Term Capital Gain depending on holding period of fund. Tax applicable on capital gain is known as Capital Gain Tax.

Capital gain tax is calculated based on 2 factors broadly:

1. Type of mutual fund- Equity or Debt mutual fund

2. Holding period- Shot term or Long term

Let’s see taxation on equity mutual fund first:

1.  Short-term Capital Gain tax:

This is applicable on equity mutual funds held for a period of 12 months or less i.e. anything less than 1 years. In short-term capital gain tax rate on these funds is 15% per annum on the amount of gain.

2. Long-term Capital Gain tax:

This is applicable on equity mutual funds held for a period of 12 months or more i.e. anything more than 1 years. In long-term capital gain tax rate on equity funds is NIL.

Now taxation on debt mutual fund:

1.  Short-term Capital Gain tax:

This is applicable on debt mutual funds held for a period of 36 months or less i.e. anything less than 3 years. In short-term capital gain tax, tax on funds is calculated as per income tax slab of the individual, i.e. 5%, 20% or 30% on the amount of gain.

2. Long-term Capital Gain tax:

This is applicable on debt mutual funds held for a period of 36 months or more i.e. anything more than 3 years. In long-term capital gain tax, tax on funds is calculated at the rate of 20% with cost indexation on the amount of gain. Indexation is the adjustment of your purchase price with respect to effect of inflation in an economy and helps you to pay low taxes on your capital gain.

Indexed cost = (Cost of investment) X (CII for the year of sale/ CII for the year of purchase)

CII stands for Cost Inflation Index where the base year is FY 1981-82. The cost inflation index number is released each year by the central tax authorities. Indexation helps in lessen the tax burden by taking inflation in account.

Hope you understand all about how taxation works on debt mutual fund.

Happy investing!

Taxation policy makes a big difference when it comes to selecting an investment tool.

Mutual Funds can be of two types:

(a)   Equity Funds

(b) Debt Funds

Tax on mutual fund is calculated and levied on the return earned by investors by way of:

(a)   Dividend or Interest Received

(b)   Capital appreciation, i.e., increase in the Net Asset Value

Depending upon the type of Mutual Fund, the tax treatment will change. Let us see how the tax treatment changes according to the type of fund:

(a) Equity Fund: Schemes that invest at least 65% of the money in equities are classified as Equity Funds. The return earned from investing in equity funds, whether by way of dividend or capital appreciation, are exempt from tax in the hands of the investor.

Example: If a person invests Rs. 1 lakh in equity funds, the value of which rises to Rs. 4 lakhs, the gain of Rs. 3 lakhs is not taxable in the hands of the investor.

(b) Debt Funds: Mutual Fund Schemes that invest less than 65% of the corpus in equities are classified as Debt-oriented Mutual Funds. Returns from debt funds are further classified into Long term and Short term capital gain depending upon the time horizon of investment. If units of a debt fund are held for more than 3 years, they are liable to long term capital gain. Otherwise, they are liable to short term capital gain.

In case of short term capital gain, the total gain to the investor is added to "Income from Capital Gains" and is accordingly chargeable to tax depending upon the income slab of the investor.

In case of long term capital gain, the total gain to the investor is taxed at 20% with indexation benefit.

Example:

Suppose you bough 1000 units of Mutual Fund on 1-1-2016 at Rs. 10 each. You subsequently bought 100 units of the same scheme on 25-1-2016 at Rs. 11 each. You later sold 1050 units of the said fund on 30-6-2016 at an NAV of Rs. 15 each before completely selling all the remaining units at Rs. 20 each.

Capital gain/loss calculation on 30-6-2014:

• As per FIFO, 1,000 units bought on 1-1-2016 and 50 units bought on 25-1-2016 are sold on 30-6-2016
• Total cost = (1,000*10) + (50*11) = Rs. 10,550
• Capital gain = 15,750 – 10,550 = Rs. 5,200
• The redemption of all 1,050 units took place within 12 months of buying, so the Rs. 5,200 capital gain is characterized as short term.

Capital gain/loss calculation on 31-3-2016:

• Total redemption (sale) value = Units NAV - 50
• Total cost = 50*11 = Rs. 550
• Capital gain = 1,000 – 550 = Rs. 450

The redemption of these 50 units took place after 12 months of subscription so the Rs. 450 capital gain is characterized as long term.