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When you invest in mutual funds, you earn money either through selling your investment at a higher price or through dividends. But did you know that this earning is not completely tax-free? Yes, you might have to pay some tax on your mutual fund profits. This is where mutual fund taxation comes into the picture.
Let’s break it down in an easy way.
When you invest money in a mutual fund and later sell it, you might make a profit. The government asks you to pay a part of this profit as tax.
This tax depends on two things:
Based on how long you hold your investment, the tax you pay falls under two categories:
Let’s understand each one of them.
If you stay invested for a long time, you are rewarded with a lower tax rate. Here’s how it works:
For Equity Mutual Funds:
If you sell your equity mutual fund units after 1 year, the profit you make is called long-term capital gain. On such gains, you have to pay 10% tax if the total profit in a financial year is more than ₹1 lakh. Profits up to ₹1 lakh are tax-free.
Example:
Suppose you invested ₹1,00,000 in an equity fund. After 2 years, it grows to ₹1,30,000.
Your profit is ₹30,000.
Since it is below ₹1 lakh, you don’t have to pay any tax.
For Debt Mutual Funds:
If you sell your debt fund units after 3 years, it counts as a long-term gain.
Earlier, the tax rate was 20% with indexation benefit (which adjusted your purchase price for inflation).
But now (after changes made from April 1, 2023), debt funds are taxed as per your income tax slab, even if you hold them for more than 3 years.
So, the benefit of long-term tax rates is not available for most debt funds now.
If you sell your mutual fund investment in a short period, you pay tax at a higher rate. Here’s how it works:
For Equity Mutual Funds:
If you sell your units within 1 year, the profit you make is called short-term capital gain. These gains are taxed at a flat rate of 15%, no matter what your income level is.
Example:
Suppose you invested ₹1,00,000 and sold it after 6 months for ₹1,10,000.
Your profit is ₹10,000.
You will have to pay 15% tax on ₹10,000, which is ₹1,500.
For Debt Mutual Funds:
If you sell your debt fund units within 3 years, the gains are added to your income and taxed according to your income tax slab.
So, if you are in the 30% tax bracket, you will pay 30% tax on your short-term profit from debt funds.
| Type of Fund | Holding Period | Tax Rate |
|---|---|---|
| Equity Fund | More than 1 year | 10% tax on gains above ₹1 lakh (tax-free up to ₹1 lakh) |
| Equity Fund | Less than 1 year | 15% flat tax on gains |
| Debt Fund | Any duration | Taxed as per your income tax slab rate (no short-term or long-term distinction; pre-2023: 20% with indexation for >3 years) |
Mutual fund investments are a great way to grow your money, but understanding taxation is very important. It helps you plan better and avoid surprises when you sell your investments. Always keep your investment time horizon in mind to make use of tax benefits where possible.
Invest wisely and stay informed!