If you are (like I am) being blasted by emails, messages and content from Mutual funds, advisors and well-wishers about this being the last few days to "lock yourself in" before you miss the "final opportunity" to make hay while the sun shines on "indexation benefits", and don't know what to do about it, read on...
What the heck happened?
The finance ministry in all its wisdom, added an amendment to the finance bill. In plain english, they clarified something that was not clear in the budget speech. They said that any mutual fund investment which was not invested in Indian equities for over 35% of its portfolio would no longer have Long term capital gain benefits. That sounds great, except now they said, we will need to pay tax on the profits made at our normal slab rate. In other words,all gains from everything but domestic equity funds will be treated the same as all other income. This includes Gold Funds and International funds too!!!
Eh?
Most of us pick up the "capital gains" amount from statements that our advisor or the mutual fund sends to us, so we do not bother with how they are calculated. But here is what changed: If you invest and hold units of a debt mutual fund for more than three years, and then sell those units, any profit you make is called "long term capital gain". These gains are taxed at 20%, after adjusting the purchase cost for inflation. For e.g.
I buy INR10 lakhs worth of debt mutual funds. I hold them for more than 3 years - say 6 years.
Then I sell them for 14 Lakhs.
My long term capital gain in this case is NOT 4 lacs.
The tax laws allowed for something called "indexation". I am allowed to take my INR10 Lakhs of purchase cost, and adjust it for inflation. Basically how much is INR 10 lakhs in terms of today's prices. The government even gives us the formula to adjust this each year. Say after adjustment, my purchase cost comes up to 12.5 Lakhs
My long term capital gain is hence INR 1.5Lakhs, of which 1 Lakh is exempt (assuming this is my only long term gain). My taxable gain is INR 0.5Lakhs
I only need to pay 20% on my taxable gain above i.e. INR10K as taxes.
Ah. Now what?
Let us say I make the same investment as above, with same returns, on 1 april 2023 when new laws kick in. 6 years after my investment, when I sell my funds, I will now need to pay tax on the full 4 Lakhs. Plus I will need to pay tax on those gains at the same rate at which all my other income is getting taxed. If by then I am in the lower bracket of 10%, then I will still need to shell out INR 40K as taxes, and if I am in the highest slab, about INR 1.2 Lakhs. You get the picture!!! The same applies to investment in gold and international funds as well
So why all the marketing emails from the mutual fund industry? All investments made before 31-march 2023 will still get the treatment of long term capital gains tax law which applies till that date. So everyone is pushing, and creating panic in the minds of people to "lock themselves in".
What should I do?
Well, as always, it depends on your relationship with money and how you manage it. My two-three cents (or paise) on this topic are :
If you have never invested in debt mutual funds for over 3 years, or never invested in them at all, Don't panic and change your strategy.
If you had plans to wait for the interest rates to be hiked in April, and then pick up some funds for the long term, you may want to invest now
If you want to "take advantage", keep these facts in mind:
When you invest in an open ended mutual fund, you can exit any time, but what the marketeers mean is : Invest, and stay there for over 3 years.
Be aware that several "close-ended" funds are also doing the rounds, where once you enter, you simply cannot exit. So ensure you know what you are getting into. These are funds usually called "Fixed Maturity Plans" and "Target Maturity Funds", and have a specific time duration against them which is mentioned. You will only be able to benefit from the old tax laws if you pick closed funds with over 365days*3years of holding period. Typically funds over 1111 days and above for long term lock-ins
What should I do next year?
Well, as ever, everything depends on your goals and aspirations, approach to finances and risk profile. I for one don't believe in "10 sizes fits all" approach, since every person has their own history and attitude towards money management. Review your asset allocation every few months so you know where you have money stashed and whether you need to relook at the way you are saving/investing/spending.
If you invest in debt mutual funds regularly, you can weigh other options like Fixed deposits, Corporate Bonds and Government securities. Taxation will be nearly the same across all three except for listed corporate bonds in some cases. While you decide, make sure you park your excess funds in arbitrage funds or liquid funds!
If you invest in Gold Funds regularly, reconsider Sovereign Gold Bond (SGBs) esp. if you want to hold it for 7 years+
If you invest in International funds, consider investing directly via some platforms that offer the option vs investing via mutual funds. Again, weigh the costs and covenience angle before making any decision.
I do have one piece of advice I read in a couple of other posts which is beneficial if you have existing holdings in debt funds :
All transactions in a Mutual Fund House (regardless of which individual fund) are made against a "Folio Number" allotted to each investor.
When you sell units of a fund ("liquidate holdings"), they are sold on a first in-first out basis. i.e. the units you bought the earliest are liquidated first.
If you plan to invest more post 1 April 2023, in a fund where you already have holdings, then create a new folio and invest under that folio. (It is usually easy to do this if you invest directly via a fund house or via an advisor)
This is because if you decide to liquidate some units, you have the choice of whether you want to liquidate the older units or let them go past the 3 year mark to get tax advantage vs liquidating the new units.
All said and done, the new taxes are here to stay, and one should not over engineer investment strategy especially within such a short time frame - we have 3 days to go to 31 march 2023!!! Ignore the marketing emails, and do what you are comfortable with. And if you think "I could have done better", remember, you can always do better - just spend time and take stock in the beginning of the next "tax" year with a clear mind!