The process of choosing the right mutual fund continues beyond focusing on the mutual fund’s risks, returns and cost. What most investors need to remember is factoring in taxation. Ignoring which, many investors often overestimate investment returns and make wrong decisions.
Investors must remember that the actual returns earned from investments are earned after paying off taxes. And they differ based on the type of investment.
Before discussing short-term capital gains tax on Mutual Funds in detail and determining if dividend on mutual fund is taxable, let’s quickly recap the fundamentals of investing.
Classification of earnings from Mutual Funds
Mutual funds collect capital from various investors and invest them in different assets. They then provide the returns on these investments to investors per prevailing market conditions. Depending on the asset class chosen, investors can earn two types of returns-
- Capital gains or the profits earned on the sale of an asset
- Dividends or the income earned when the underlying assets pay a regular interest
As an investor, your next question most likely is – are capital gains taxable? Is mutual fund dividend taxable? The answer to both these questions is yes.
Remember that mutual fund dividends are taxed as per the investor’s income tax slab, whereas capital gains are taxed based on the fund scheme and the holding period. So, long-term and short-term capital gain mutual funds are taxed differently.
Here’s all you need to know about the latter. Bonus: you learn if mutual fund dividend is taxable as well.
Short-term capital gains tax on Mutual Funds: What it means?
The returns from mutual fund investments having a short holding period between 12 -36 months (depending on the type of the fund) are termed short-term capital gains (STCG). Therefore, the short-term capital gains tax on mutual funds is the tax levied on these gains. Note that the STCG on mutual funds depends on the type of the fund. And as an investor, you can choose to invest in debt, hybrid, and other types of short-term capital gain mutual funds.
Below you will find a detailed analysis of STCG on mutual funds taxation for equity, debt, and hybrid funds. Let’s get right into it.
When investors invest in debt funds, they put capital in securities like corporate bonds, commercial paper, treasury bills, and more. The owners of these securities pay back interest to the investors. So, the returns are in the form of dividends. These have a holding period of up to 36 months or less. So, the dividends earned are in the form of STCG on mutual funds.
If you’ve followed this blog, you know the answer to if mutual fund dividend is taxable is yes, it is. But how does income tax on mutual fund dividend work?
Debt Mutual Funds & their taxability
Investors who invest in debt mutual funds for less than 36 months need to pay short-term capital gain tax on mutual funds, as per their income tax slab. They are not taxed under the 111 A charging section of the Income Tax Act.
For instance, say an investor earning Rs. 7 lakhs per annum who earned Rs. 40,000 from their short-term capital gain mutual fund. They wouldn’t have to ask the question: is the mutual fund dividend taxable? The gains would be added to the taxable income, and the investor would need to pay Rs. 12,500 +20% of the (total income minus Rs. 500000).
As an investor, you might have gotten the answer to your question: is mutual Fund dividend taxable? So let’s move on to understanding how hybrid mutual funds get taxed.
Hybrid Mutual Funds & their taxability
While debt mutual funds are short-term capital gain mutual funds with lower risk, they often do not offer high returns. Besides, as a first-time investor, you might ask, is mutual fund dividend taxable? Then you’d realize that you need to pay short-term capital gain tax on the mutual fund as per your income tax slab. But that’s not the case with hybrid mutual funds.
Investors that want their mutual fund portfolio to have some diversity typically invest in hybrid funds or a mixture of debt and equity-oriented mutual funds. This way, they balance the risk and the returns. Keep in mind that hybrid funds can be either short-term or long-term investments. While short-term funds generate income, long-term hybrid funds are known to offer consistent returns over the term.
Investors can put their money into different types of hybrid funds like equity-oriented hybrid funds, balanced funds or debt-oriented hybrid funds. Unlike debt funds, both short-term and long-term hybrid funds offer STCG on mutual funds. The short-term capital gain tax on mutual funds in either of these cases then depends on the holding period of the funds. Let’s take a look at the short-term capital gain tax on the mutual fund for hybrid funds.
- Hybrid mutual funds wherein 65% or more of mutual fund assets are invested in equity instruments are liable for taxation. Such equity-oriented mutual funds taxation is at 15% for funds with a holding period of 12 months or less.
- Hybrid debt-oriented balanced funds wherein 60% of the fund’s asset allocation are in debt instruments are also liable for taxation. If the holding period for the funds is under 36 months, unlike equity-oriented mutual funds taxation, the returns are taxed as per the investor’s income tax slab. So, if you’re wondering: is the mutual fund dividend taxable? Yes, it is. This is even specified under the specific charging section of the Income Tax Act.
Other Tax on Short-term Capital Gains on Mutual Funds
Apart from the short-term capital gain mutual funds discussed above, many other funds are liable to additional taxes. For instance, equity funds are liable for taxation under the respective charging section of Income Tax Act. Often collected at the source, this equity-oriented mutual funds taxation is for securities listed and sold in stock agencies. A 0.001% Securities and Transaction Tax is levied on investors for every sale listed under a stock exchange.
Now you are equipped with information about short-term capital gains tax on mutual funds and have answers to the questions: is your mutual fund dividend taxable, and what is the income tax on mutual fund dividend? So you should be able to pay taxes on time and estimate your actual returns well in advance. If you need more information about mutual fund options or short-term capital gain tax on mutual funds, visit the Moneyfy website or download the app from the playstore.