Today, there is a plethora of financial instruments that you can invest in to create a diverse portfolio. From debt instruments and forex trading to NFTs and cryptocurrencies, the options are endless. For a majority though, the equity markets remain the go-to investment option.

Novice investors may delve into individual stock selection, but will soon realize that they cannot sustain this strategy due to the time and effort needed to monitor the stock market and adjust their portfolios. Here is where the concept of a mutual fund comes into play. A mutual fund essentially allows an investor to invest in a  basket of securities, be they equities, debt, commodities or a hybrid. The fund is managed by a professional fund house and pools together funds from multiple investors in order to provide its investment corpus.

As the mutual fund is a service, there are naturally fees that you must look out for when investing. However, another cost you should keep in mind when making your mutual fund investments are the taxes you may have to pay. The amount of taxes you will have to pay on your mutual fund investment will depend on your tax bracket and the type of fund you invest in. You can use a mutual fund calculator to estimate the amount of taxes you will have to pay, and to make sure that you are investing in the right funds for your tax needs. Let’s take a look at what these taxes are to be aware of them before you begin investing in mutual funds. In addition to the fees charged by the mutual fund, you may also have to pay taxes on your investment gains. These taxes can vary depending on the type of mutual fund you invest in and your income tax bracket. You can use a CAGR calculator to estimate the returns you could expect from a mutual fund over a specific period of time, including the impact of taxes.

Taxes on Mutual funds

With mutual fund gains, there are two main types of taxes that are applicable; Capital gains tax and the tax levied on dividend payments. Let’s break them both down. 

Capital gains tax on mutual funds. 

Capital gains taxes on mutual funds are charged on the basis of the time you spend holding on to your investments. Here’s a table of classifications. 

Type of Fund	Short term Capital gains (STCG)	Long term Capital gains (LTCG)
Equity Funds	Less than 12 months	12 months or more
Debt Funds	Less than 3 years (36 months)	36 months or more
Hybrid Debt Funds	Less than 3 years (36 months)	36 months or more
Hybrid Equity Funds	Less than 12 months	12 months or more

When you invest in equity mutual funds and realise capital gains in under a year, the taxation rate is a flat 15% regardless of the income tax bracket you fall in. For long term capital gains, amounts above 1 lakh are taxed at a 10% rate, while amounts under are exempt. 

With debt funds, the STCG is based on your income bracket, and LTCG are taxed at 20%, post indexation. 

Tax on dividend payments. 

Mutual fund gains can also be made in the form of dividend payments, and these attract a tax as well. Dividends are payments made by companies to their shareholders. These are usually funded by the company’s profits and are means to reduce excess liquidity and increase the attractiveness of the stock. Dividend payments, according to the 2020 budget are clubbed in with your income and taxed at the same rate. 

Conclusion. 

Mutual funds aim to offer you a certain amount of returns over a certain period of time. If you don’t account for the taxes on mutual funds, however, they could end up eating into your returns, putting your portfolio out of balance. Keeping these taxes in mind will help you get more accurate information about your returns when you invest in mutual funds. 

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