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Exploring Tax Benefits of Mutual Funds for Young Salary Earners

Jun 30, 2023 12:51 IST 
Pune, Maharashtra, India

Over the past few years, India’s youth have increasingly adopted mutual funds as their preferred mode of investment. As per a report by CAMS, one of the country’s largest registrar and transfer agencies, millennials comprised of around 54% of the 1.6 crore new mutual fund investors added from 2019 to 2023.


The multiple benefits of mutual fund investments include its ease of investing, professional fund management portfolio diversification, and tax benefits. In the following sections, investors will learn how to make profits from mutual funds while saving taxes. 


Mutual fund tax benefits under Section 80C 

Equity-linked saving schemes (ELSS) are a popular equity fund that offers tax saving benefits to investors under Section 80C of the Income Tax Act (ITA), 1961. People who invest in ELSS can seek tax deductions of up to Rs. 1.5 lakh. This is the reason why ELSS is also referred to as a 'tax-saving mutual fund’.


The emerging force of the country’s young salary earners is expected to grow further, and women will increasingly adopt mutual fund investments. Women comprised almost 26% of the 1.6 crore new investors according to the CAMS report.


Conducive market conditions, awareness campaigns, digital access, and simplified KYC are some of the factors that have driven many young people to invest in mutual funds. It is expected to increase further once more people become aware of the benefits of tax-saving mutual funds. 


You can find multiple ELSS mutual funds by top Asset Management Companies on the Bajaj Finance platform. You can filter these funds based on your risk appetite, returns, ratings, and benchmark index.  


How does a tax-saving mutual fund work? 

These schemes accumulate money from various investors and invest in the equity market. The most important feature of ELSS is that these funds have a lock-in period of 3 years. Please note that when investors choose to invest in these savings via a systematic investment plan (SIP), the lock-in period of each instalment is 3 years. 


It would be easier to understand with an example. Suppose Ira contributed the first SIP instalment on 1 May 2023 and the second instalments on 1 June 2023. So, the first SIP instalments will remain locked in up to 1 May 2026 and the second instalments will remain locked in up to 1 June 2026. 


Investors can redeem units of ELSS at the end of their lock-in periods at the prevalent Net Asset Value (NAV). 


Taxation of equity mutual funds

Equity mutual funds are schemes that invest at least 65% of their corpus in equities or equity-linked investment instruments. Investors can realise either short-term capital gains (STCG) or long-term capital gains (LTCG) depending on the holding period of their equity investments. 


STCG is realised if an investor redeems their investment within 1 year of investment and it is taxed at a flat 15% irrespective of one's income tax slab.


LTCGs will be realised if an investor redeems their investment after holding the mutual fund units for more than 1 year. Equity fund investors will receive a certain tax benefit for LTCG, i.e., capital gains up to Rs. 1 lakh in a financial year will be tax-exempt.


Once capital gains exceed this threshold limit, investors have to pay a 10% tax on the excess amount and will not receive any indexation benefits.


Taxation of debt funds 

Debt mutual funds are schemes that invest in fixed-income instruments. Instruments such as government securities, corporate bonds, money market instruments, and corporate debt securities that generate capital appreciation.


According to Union Budget 2023, LTCG taxation on debt funds will not be applicable after 1st April 2023. Now, both short-term and long-term investments in these schemes will be taxed as per the investor’s income tax slab rates.


Many people believe that debt mutual fund taxation has become similar to the taxation of fixed deposits at banks. But, there is a difference that makes debt funds a more attractive investment option than FDs. 


Bank FD interest taxation depends on the method of accounting followed by a taxpayer. But, usually, banks deduct tax at source from interest payouts of FD schemes annually. This is where the difference lies. Debt fund investors have to pay capital gains tax only when they redeem their units or transfer their investment.


In addition, investors can offset their short-term capital loss arising from debt funds while filing Income Tax Returns (ITR). It will reduce their taxable income falling under the head ‘income from capital gains’. 


Important things to remember 

Here are some important things that investors should consider when trying to save taxes on mutual fund investments:


  • The total deduction investors can avail from an ELSS depends on the amount they have invested in a financial year. However, the maximum deduction available under Section 80C is Rs.1.5 lakh/year. Note that these deductions are not available for the new tax regime.

  • Indeed, saving taxes is not the only aim of most young mutual fund investors. So, one should consider his/her current tax liabilities when deciding to invest in mutual funds. 

  • What can young investors do with the saved taxes? Well, they can use it to create an emergency fund that would help deal with financial emergencies. If they have incurred any debt, they can use the saved taxes for loan repayments. 


If salaried people want to save taxes on an investment that offers substantial profits, the ELSS funds on the Bajaj Financial platform are an ideal choice. But before choosing a mutual fund investment, an investor should check his/her financial goals, risk appetite, and investment horizon.

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