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Mutual Fund Taxation – An Ultimate Guide

Written by - Akshatha Sajumon

February 13, 2022 7 minutes

The current generation has grown up listening about mutual funds. The most common thing anyone knows about then is that they are subject to market risks. Mutual funds are an easy and effective way of investment for all age groups. But when it comes to taxes on mutual funds not many are aware of how they are taxed and that’s when the investor has to bear the tax brunt. 

We bring you all the details that you need to know about how your mutual fund investments are taxed. We advise you to bookmark ?this page for your reference. 

Taxation on Mutual Funds

Investing in mutual funds is a popular choice among many Indian investors, as it offers an opportunity to diversify their investment portfolio and potentially earn higher returns. However, it’s important to note that mutual fund investments are also subject to taxation. As per the Income Tax Act, 1961, mutual fund investments are taxed differently based on various factors such as the type of fund, holding period, and the investor’s tax bracket. Therefore, it’s crucial for investors to be aware of the tax implications of mutual fund investments to optimize their returns and avoid any penalties.

Types of taxes on Mutual funds

The tax implication on mutual funds is on two occasions namely when the investor receives profit on the redemption of units and when they receive dividends on the investment.

Capital gains

Capital gains when explained in simplest terms are the profit received by a person after selling the asset. Income Tax Act, 1961, specified two types of capital gains based on the period of holding of the asset, i.e., short-term capital gains and long-term capital gains. The rate of taxation in capital gains of mutual funds is again dependent on the type of fund.

Taxes on dividends

Before the budget of February 2020, dividends received by an investor were not taxable in their hands as the companies had to pay Dividend Distribution Tax (DDT). The budget of 2020 changed this scenario and now dividends received on mutual funds are taxable in the hands of investors according to the applicable tax rates. 

Factors determining capital gains taxes on mutual funds

Capital gains are a huge part of any mutual fund investment. Investors should plan the redemption of their funds based on tax implications on such funds. This is known as tax planning. As mentioned above, the tax implication on mutual funds is dependent on two factors, the type of find and the holding period. This is explained here. 

Type of mutual fund

There are three types of mutual funds
Funds that invest in predominantly equities are referred to as equity mutual funds.
Funds that have majority investment in fixed income securities like government bonds, corporate bonds, etc. are known as debt funds.
The third version of funds is the hybrid mutual funds where the fund invests in both equity and debt.

Investment period

The investment period is the holding period of the fund from the time of investment till the time of redemption of the fund. As per IT Act, the classification of holding period is different for equity mutual funds and debt mutual funds. 

  • Equity funds can be classified as short-term funds if they are redeemed before 12 months after which they can be considered as long-term funds.
  • In the case of debt mutual funds, a fund held for less than 36 months is known as a short-term fund, and a fund held for a period of more than 36 months is termed as long-term funds. 
  • The determination of the holding period for a hybrid fund depends on the majority investment of the fund. 

The applicable tax rate based on the type of fund and the period of holding is tabled below.

Type of fundsShort term gainsTax rateLong term gainsTax rate
Equity mutual fundsLess than 12 months15% (plus cess and surcharge)12 months and moreExempt up to Rs.1,00,000

Above Rs.1,00,000 taxed at 10% (plus cess and surcharge)

Debt mutual fundsLess than 36 monthsSlab rate of investor36 months and more20% (plus cess and surcharge)
Hybrid equity-oriented mutual fundsLess than 12 months15% (plus cess and surcharge)12 months and moreExempt up to Rs.1,00,000

Above Rs.1,00,000 taxed at 10% (plus cess and surcharge)

Hybrid debt oriented mutual fundsLess than 36 monthsSlab rate of investor36 months and more20% (plus cess and surcharge)

Taxation on Capital Gains from equity funds

Equity funds are funds where the majority of investment (more than 65%) is in equity. These funds are also referred to as stock funds. When equity funds are held for a period of fewer than 12 months, any gains arising from them are deemed short-term capital gains and taxed at a flat rate of 15% (excluding cess and surcharge). Capital gains on equity funds held for a period of more than 12 months are deemed to be long-term capital gains. Investors get relief of exemption on long-term capital gains up to Rs. 1,00,000 in any financial year post which the gains are taxed at 10% (excluding cess and surcharge). Investors do not get the benefit of indexation on long term capital gains of equity funds

Taxation on Capital Gains from debt funds

Debt funds are funds that have more than 65% exposure in debt investments or fixed-income investments. Capital gains on debt funds held for a period of fewer than 36 months are termed as short-term gains and are taxed at the applicable slab rates for individual investors. Long-term capital gains are when the fund is redeemed after a period of more than 36 months. These gains are taxed at a flat rate of 20% (excluding cess and surcharge). Investors can get the benefit of indexation on long-term capital gains of debt funds.

Taxation on Capital Gains from hybrid funds

Taxation of hybrid funds depends on the majority exposure of the fund. When the hybrid or the balanced fund is equity dominated (equity investment more than 65%), the fund is taxed in line with the equity mutual funds. When the hybrid fund is debt dominated (debt exposure more than 65%), the fund is taxed in line with the debt funds. It is essential for the investors to know about the exposure before investing in hybrid funds for effective tax planning. 

Tax on SIPs

Systematic investment planning (SIP) is the mode of investment in mutual funds where the investor can invest in the fund on a periodic basis (for example weekly, monthly, half-yearly, annually). When the units are redeemed in a SIP plan, the method for tax calculation applied is ‘first in first out basis. The period of holding will be thus calculated on the basis of investment in the earliest holding and not the latest for determining capital gains. If the investor incurs capital gains on equity funds held through SIP for more than 12 months, such gains will be subject to long term gains (provided the gains are more than Rs. 1,00,000) 

Securities Transaction Taxes

Securities transaction tax (STT) is the additional tax that is levied on equity mutual funds and hybrid equity mutual funds apart from capital gains and dividend tax. As per Income Tax Act, these funds are subject to a tax at the rate of 0.001% on any transaction of buying or selling any units of such funds. Debt funds or hybrid debt mutual funds are not subject to any security transaction tax. 

Hence, this is another factor to be considered while selecting the type of fund for investment. 


Tax implications are an important factor to be considered while investing in mutual funds. An investor has to be aware of the type of funds and the tax levied on such funds to make efficient tax planning. The tax structure on mutual funds encourages the investor to hold mutual funds for the long term for them to become tax efficient. This principle holds true in the case of all types of funds mentioned above.

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