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What is long term capital gain on mutual funds?

Calculation of long-term gains on mutual funds has come under the spotlight as more investors turn towards mutual funds as their go-to investment instrument. Long term capital gain on mutual funds is the gain generated when the investment in mutual funds is held for a period longer than the threshold period. The threshold or the holding period varies depending on the nature of the mutual fund invested in. 

In the case of equity mutual funds, profits from the sale of mutual funds with the holding period of more than 12 months is construed as long term gains. In the case of debt mutual funds, the holding period is 36 months for long term gains. This rule implies that long term capital gains on debt funds are those which are earned on the sale of investments that have been held for more than 36 months. 

LTCG from equity-based mutual funds:

Any gains on the sale of equity mutual funds held for more than 12 months are subjected to taxation on returns at a rate of 10%. However, Long term capital gains from equity mutual funds and tax-saver funds are exempt from tax if it is below 1 lakh rupees in a financial year. Equity mutual funds do not have any indexation benefit. 

LTCG on Debt Funds:

LTCG on debt funds held for over 36 months is taxable at 20% after indexation. Indexation is an opportunity for debt fund holders to correct the cost of acquisition for inflation over the holding period and reduce the taxable LTCG. 

The following method is used for the calculation of long-term capital gains:

  1. The full value of consideration or the sale amount is taken into account.
  2. The following are deducted:
    1. The total incurred expenditure on such transfers.
    2. The indexed cost of acquisition. The Indexed Cost of Acquisition is calculated by applying CII (cost inflation index), ideally done to adjust the amounts against inflation over the years of holding the assets. 

Formula:

Long Term Capital Gain = Full value of consideration - incurred expenditure - the indexed cost of acquisition 

Indexed Cost of Acquisition: Original Purchase Price *(Cost Inflation Index (CII) of Sale Year/ CII of Year of Purchase)

Tax on Hybrid or Balanced Funds:

In the case of hybrid or balanced funds with an equity exposure of 65% or higher, they are taxed as per equity fund rules. In case of equity exposure lower than 65%, they are taxed as per debt funds laws.  

LTCG on SIP

In the case of Systematic Investment Plan (SIP), the capital gains are computed for units allocated against every installment depending on the date of the initial purchase to calculate long or short-term capital gains. If the units in an equity mutual fund are held for more than 12 months  on the date of the sale, it is considered as a long-term capital gain.

Conclusion: 

Long term capital gains on mutual funds are earned on investments sold beyond the holding period of 12 months in case of equity funds and 36 months in case of debt funds. Investors must go through the tax guidelines carefully to ensure they are complying with the tax obligations for income earned from their investments in mutual funds.

Disclaimer: Mutual Fund Investments are subject to market risks, read all scheme related documents carefully. The contents herein mentioned are solely for informational purpose and shall not be considered as an invitation or persuasion to trade or invest. I-Sec and affiliates accept no liabilities for any loss or damage of any kind arising out of any actions taken in reliance thereon.

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