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Mutual Funds which comes with a plethora of schemes offered by many “Asset Management Companies” (AMCs) gives the investor a choice as to which scheme is suited best considering risk and return factor. But have we considered any tax implication on income generated from these Mutual Funds Investments?
If you are a little aware as to what is the scenario of tax-ability of income from Mutual Fund, its Exempt in the hands of the investors (unit holders). Yes, you read it right. The income is exempt under section 10(35) of the Income Tax Act and Mutual fund company needs to pay additional tax.
But now scenario with regards to tax-ability of such income is changed after the announcement of Budget 2020. Let us see Pre-Budget and Post Budget Tax-ability.
The Pre-Budget 2020 Scenario:
As per the Income Tax Act (before announcement of Budget 2020), section 115R any amount distributed by MF to its unit holders shall be taxed as per Below rates:
1. Equity Oriented MF – 10% if you are Individual/HUF/any other person.
2. Any other fund – 25% if you are Individual/HUF, 30% if any other person.
However, the above rates shall be grossed up or increased to such an amount that after deduction of Income-tax the resultant figure shall be the amount distributed.
For Example: If the Dividend distributed by Mutual Fund company is INR 100 and the rate is 10% then such 100 will be grossed up. Therefore it should be 100/90%= 111.11. Now if you will pay tax @ 10% on 111.11 it will be 11.11 and the net amount is 100 only.
The above rates given in the table shall be increased by surcharge @ 12% and Cess of 4%. Thus effective rates of Tax after grossing up and considering surcharge and cess will be the following: 10% - 12.942%, 25% - 38.826%, 30% - 49.92%, 5% - 6.131%
Let us take an example to understand better:
Question : Mr. A an individual taxpayer invests INR 250000 in an Equity oriented MF and gets 2500 units @ INR 100/unit. The fund distributed dividends to Unit Holders for INR 100,00,000.
Solution: Since it is equity oriented Mutual Fund and dividend distributed to Individual, the rate applicable is 10% (from above table), however, the effective tax rate is 12.942% as discussed above.
Fund will pay tax of INR 12,94,200 (100,00,000*12.942%) and no tax paid by Unit holders i.e investor.
The Post-Budget 2020 Scenario:
Since the basic concept of Income tax is that it should be paid by person by whom income is earned. The memorandum to the Finance Bill 2020 suggested that income is in the hands of Unit Holders and not Mutual Fund company, and shall be taxed in the hands of Unit Holders only.
Let us have a look at Below changes introduced in Budget 2020:
1. Section 115R (referred in the table) – Now applicable only if income distributed before 31st March 2020
2. Section 10(35) – This exemption is no longer available on income received after 1st April 2020
3. TDS shall be Deducted – New section 194K inserted. If any dividend distributed to Resident Unit Holders more than 5000 TDS @ 10% to be deducted. Up to 5000 no TDS deducted. Refer illustration below
4. Deduction available - Any loan is taken to invest in Mutual funds, interest on that loan shall be deducted up to 20% only.
Let us take an illustration to understand better.
Question - Mr. A an individual taxpayer invests INR 250000 in an Equity oriented MF and gets 2500 units @ INR 100/unit. The fund distributed dividends to Unit Holders for INR 100,00,000. Mr. A receives a dividend of 25000
Solution – Following analysis can be drawn
1. Mutual Fund Company will pay “Nil” Tax
2. All income of INR 25000 added to Total income of Mr. A and Taxable at the slab rates Refer my article for slab rates
3. TDS shall be deducted by Mutual Fund Company (194K) @10% that is INR 2500 (25000*10%) since the amount is more than 5000
4. TDS deducted company can be adjusted in Mr. A’s total tax while filing ITR.
Conclusion:
The incidence of direct of Tax shall be on the recipient and not on the payer. The amendment in Finance act is made keeping in mind the fundamental principle of direct tax.
The responsibility to pay tax is now shifted to Unit Holder, however, the Mutual fund company has been obligated to deduct TDS under section 194K, which can be adjusted while filing ITR.
Written By – Utkarsh Samaiya.
Edited By – AdrijaSaha
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