How Do Taxes Work on Equity Funds?
Mutual Funds must have at least 65% of their portfolio invested in equities to qualify for equity taxation. This includes pure equity funds like large-cap, mid-cap, and small-cap funds, as well as ELSS (tax-saving) funds and aggressive hybrid funds with substantial equity exposure.
Here’s how equity mutual funds are taxed:
| Holding Period | Type of Gain | Tax Rate | Taxable Amount |
| Below 1 year | Short Term Capital Gains (STCG) | 20% | Taxed on the entire gain amount. |
| Over 1 year (12 months) | Long Term Capital Gains (LTCG) | 12.5% (on gains exceeding ₹1.25 lakh annually) | Gains up to ₹1.25 lakh are tax-free; only gains above ₹ 1.25 lakh are taxed. |
STCG: If you sell your fund units within a year, your profit is taxed at 20%, regardless of your tax bracket.
LTCG: If you hold the units for over a year, profits over ₹1.25 lakh are taxed at 12.5%.
Before 31st January 2018, there was no tax on long-term capital gains (LTCG). However, starting in February 2018, the government introduced a LTCG tax for profits. Gains made before January 31, 2018, are protected and not taxed — this protection is called “grandfathering.”
Let’s Simplify with Examples
- Buying Before Grandfathering Date
- You bought a mutual fund in January 2015 for ₹1,00,000. By January 31, 2018, the value rises to ₹1,50,000, and you sell it in January 2021 for ₹2,00,000.
- Your taxable gain will be ₹50,000 (₹2,00,000 – ₹1,50,000).
- Buying After Grandfathering Date
-
- If you buy a fund in March 2018 for ₹1,00,000 and sell it in March 2023 for ₹2,50,000, your taxable gain is ₹1,50,000 (₹2,50,000 – ₹1,00,000).
- Profit Less Than ₹1.25 Lakh
-
- If your total gain for the year is under ₹1.25 lakh, you pay no LTCG tax since it’s under the exemption limit.
- Dividend Taxation
-
- Dividends are now taxed according to your income tax slab. For example, if you’re in the 20% bracket, you’ll pay 20% tax on the dividend you receive.
Tax rules for equity funds can be complex, especially with changing laws and exemptions. An AMFI-registered mutual fund distributor or financial advisor can help you navigate these details, ensuring your investments are optimized for both returns and tax efficiency. With professional guidance, you can avoid costly mistakes and make informed decisions that align with your long-term financial goals. Whether you’re planning for retirement, child education, or buying a home, understanding how equity mutual funds are taxed is crucial for wealth creation. Expert advice simplifies these complexities and helps you pursue your financial goals through goal-based investing.
