Mutual funds have gained immense popularity in the last decade to become one of the most sought-after investment options in India. Investors are increasingly attracted to this investment avenue for achieving various financial goals. Mutual funds are easy to invest in and offer tax-efficiency apart from a variety of schemes with different risk-return combinations.
Most investors are aware of the broad categories of mutual funds available in the market and how to invest in them, but not many focus on the tax aspect of mutual fund returns. Especially when it comes to TDS on mutual fund investments, investors are often perplexed about the net in-hand returns they receive versus what they expected.
Types of returns from mutual fund investments
Mutual funds investors can expect returns in two main formats, dividend income and capital gains. Dividends are portions of profits paid out by the company, if any. When companies have surplus cash, the same may be distributed to investors in the form of dividends. The dividend amount is based on the number of mutual fund units held by investors.
A capital gain is what an investor earns from sale of the mutual fund units held by him/her. If the sales proceeds are greater than the investment amount, there is capital gain. A gain is realised from a mutual fund investment if the price of units is higher at the time of sale as compared to the price at the time of investment.
Investors must pay tax on both dividend and capital gains income. So, are these subject to TDS or do investors need to pay tax on them after receipt? Here is everything that an investor must know about TDS or tax deducted at the source on income from mutual fund investments.
- TDS on mutual fund dividends
Dividend income from mutual fund investments is subject to TDS at 10%. This is applicable for dividend income exceeding Rs. 5,000. Since dividend distribution tax or DDT is no longer required to be deducted by Mutual Fund Companies, any dividend income earned by an investor will now be taxable as per individual tax slab.
- TDS on dividend payout, reinvestment and transfer
The TDS on dividend income from mutual fund investments is applicable on all three options, dividend payout, dividend reinvestment and also dividend transfer. Therefore, investors cannot evade tax irrespective of what they choose to do with their dividend income.
- No TDS on capital gains for domestic investors
Mutual fund investors may earn either short-term or long-term capital gains on their investments. These are, however, not subject to TDS since these are taxable in the hands of the investors. The table below shows details of tax applicability based on type of fund and type of gains:
|Fund category||Short-term gains||Long-term gains|
|Equity||Under 12 months||15% tax||Over 12 months||10% tax on income over Rs. 1 lakh|
|Debt||Under 36 months||As per individual tax slab||Over 36 months||20% tax after indexation|
|Hybrid equity oriented||Under 12 months||15% tax + cess+surcharge||Over 12 months||10% + cess + surcharge on income over Rs. 1 lakh|
|Hybrid debt oriented||Under 36 months||As per individual tax slab||Over 36 months||20% + cess + surcharge|
- Form 15G/15H
Investors who want to request the paying entity to not deduct TDS on their mutual fund gains can do so by submitting Form 15G and Form 15H. These are self declaration forms to be submitted to the bank for avoiding TDS on interest income if the investor’s income is within the basic exemption limit. It is important to furnish PAN along with these forms. Both these forms can be used only by residents of the country.
- Form 15G is for resident individual or HUF or trust within age limit of 60 years
- Form 15H is for a resident individual over the age of 60 years
To conclude, the provisions introduced in Budget 2020 through Section 194K shifted the burden of tax payment on dividend income from companies to investors. With TDS on mutual fund investments, investors are considered better off if they opt for capital gains through growth plans instead of the dividend option.
Section 194K was introduced in Budget 2020 and took away the exemption on income from mutual fund units (including dividend income). As per this section, any individual/institution paying a resident individual income towards mutual fund units must deduct TDS at 10% while crediting such income exceeding Rs. 5,000.
Forms 15G or 15H can be used by individual mutual fund investors to avoid TDS. This can be done provided their overall tax liability in a financial year is expected to be nil.
The TDS rate on dividend income from mutual funds is 10%. The government, as part of its COVID-19 relief measures, had temporarily reduced the rate to 7.5% for distribution made from 14 May 2020 until 31 March 2021.
Yes, different tax rates and rules are applicable for different capital gains from mutual funds. These are broadly classified as short-term and long-term. The tax also differs as per the mutual fund scheme invested in, for example, equity or debt.
STT or Securities Transaction Tax of 0.001% is charged by the government at the time of buying or selling mutual fund units of an equity fund or a hybrid equity-oriented fund. No STT is applied to debt fund units.