How will mutual funds be taxed in FY27? Here is an investor guide

Tax rules for mutual funds have changed over the past few years, with the revamped framework based on the fund type, holding period and purchase date of units. The new framework has different rates for equity funds, debt funds, hybrid schemes, ELSS and REITs/InvITs, making it vital for investors to understand how their gains will be taxed.

“Mutual fund taxation in India depends on three core factors — investor type (resident individual/HUF, non-resident, or domestic company), portfolio composition of the scheme (equity, debt, or other assets) and holding period of the investment,” Rajesh Gandhi, partner, Deloitte India, said.

While evaluating the tax impact of investing in an equity, debt, hybrid, gold or international fund, investors must first understand the asset allocation of the scheme, as taxation follows the underlying exposure of the mutual fund, he said.

The table below summarises the meaning, holding-period classification and tax rates across major mutual fund categories for different investor types, assuming gains on the transfer of mutual fund units are earned in the 2026–27 tax year along with special provisions where relevant.

Equity mutual funds: Lower tax for long-term investors

Equity-oriented mutual funds and equity exchange traded funds (ETFs) invest at least 65 percent in listed domestic shares. If an investor holds these funds for more than 12 months, the gains are treated as long term. Long-term capital gains (LTCGs) are taxed at 12.5 percent on profits above Rs 1.25 lakh. If the holding period is 12 months or less, the gains are short term and taxed at 20 percent.

There is also a grandfathering benefit for investments made on or before January 31, 2018. In such cases, gains up to that date are not taxed.

ELSS: Tax saving with a lock-in

Equity-linked savings schemes (ELSS) invest mainly in equities and come with a three-year lock-in. Because of this lock-in, there is no short-term capital gains tax.

Long-term gains are taxed at 12.5 percent above Rs 1.25 lakh. Investments in ELSS also qualify for a deduction of up to Rs 1.5 lakh under Section 80C for those opting for the old tax regime.

Debt mutual funds: Rules depend on purchase date

Specified mutual funds, primarily debt funds, are taxed differently depending on when the units were purchased.

Investments made on or after April 1, 2023: Capital gains are treated as short term, regardless of how long they are held and are taxed at the investor’s income-tax slab rate.

Investments made before April 1, 2023: Long-term gains (after 24 months for unlisted and 12 months for listed) are taxed at 12.5 percent. Short-term gains are taxed at slab rates.

Hybrid funds: Equity exposure decides the tax

Hybrid funds are taxed according to their equity allocation.

• 65 percent or more in equity: Taxed as an equity fund.
• Less than 35 percent in equity: Taxed as a debt fund and classified as specified mutual funds.
• Between 35 percent and 65 percent: Long-term gains are taxed at 12.5 percent, while short-term gains are taxed at slab rates.

Other mutual funds: Gold, international and FoFs

Funds that invest less than 65 percent in Indian equities such as gold ETFs, international funds and most fund of funds will follow taxation rules where long-term gains are taxed at 12.5 percent and short-term gains at slab rates.

Gandhi said if the listed equity exposure is more than 65 percent, then it will fall under the first bracket “equity-oriented mutual funds” and long-term gains taxed at 12.5 percent on gains exceeding Rs 1.25 lakh and short term at 20 percent.

“If a scheme invests more than 65 percent in debt/money market instruments (i.e., direct debt exposure) or more than equal to 65 percent in other funds that themselves invest more than 65 percent in debt (indirect debt exposure), it qualifies as a specified mutual fund. In such cases, the gains are deemed short-term and taxable at applicable rates/ slab rates, with no long-term capital gains benefit,” said Gandhi.

REITS and InvITs: Similar to equity for listed units

Listed real estate investment trusts (REITs) and Infrastructure Investment Trusts : Gains after 12 months are taxed at 12.5 percent above Rs 1.25 lakh. Gains within 12 months are taxed at 20 percent.

In addition to mutual funds, REIT and InvIT units are also often evaluated alongside mutual funds from a taxation perspective, given their market-linked returns and exchange-traded nature.

“While REITs and InvITs are classified as business trusts and not mutual funds, their capital gains taxation broadly aligns with listed equity instruments,” said Gandhi.

Points to note

·  Income received as dividends from mutual funds is added to the investor’s income and taxed at the applicable slab rate.

·  Non-resident investors and domestic companies are taxed at different rates. Non-residents may also claim tax treaty benefits where applicable.

Why holding period and fund type matter

Same investment can be taxed at different rates, depending on the category of the fund and the duration for which it is held. Equity funds reward long-term investing with lower tax rates, while debt funds bought after April 2023 are taxed at slab rates, regardless of the holding period. For investors, fund selection and investment horizon are crucial factors in post-tax returns.