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The Budget has proposed that liquid and money market funds pay a dividend distribution tax (DDT) of 25%; at present, this rate is 12.5%. This marks a steep 100% increase in DDT on liquid/money market funds. DDT on all other debt funds have been maintained 12.5% for individuals; for corporates however, this rate is hiked to 20% (earlier 12.5%). DDT on equity funds remains unchanged at nil.
There is no change in the taxation of capital gains.
With these changes, this is how dividends declared by mutual funds will be taxed:
| 1. |
Dividends on equity funds are tax-free, i.e. there is no DDT on equity-oriented funds. |
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| 2. |
There is a 25% DDT (for both individuals and Corporates; plus the applicable surcharge and cess) on dividends declared by liquid funds and money market funds. Dividends on all other debt funds are taxed at 12.5% for individuals and 20% for corporates. |
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Taxation of dividends of mutual fund schemes
| Category |
Tax rates for |
| Individuals |
Corporates |
| Liquid funds |
28.3% |
28.3% |
| Other debt funds |
14.2% |
22.7% |
| Equity funds |
Nil |
Nil |
(Surcharge rate and cess have been factored in.)
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It is evident that with a 25% DDT, investments in liquid and money market funds are no longer remunerative for investors. In our illustration we have quantified the ‘loss’ to the investor under the new tax regime proposed in the budget.
DDT burns a hole in returns
| Investment in Liquid/Money Market Fund |
At present |
Proposed |
| Investment (Rs) |
100,000 |
100,000 |
| Yield |
9.0% |
9.0% |
| Pre-tax Return (Rs) |
9,000 |
9,000 |
| Distribution tax (incl surcharge and cess) |
14.0% |
28.3% |
| Net return |
7,738 |
6,451 |
| Effective return |
7.7% |
6.5% |
(Surcharge and cess have been factored in at applicable rates.)
In our example, the liquid fund investor at present (DDT @12.5%) earns a net dividend of Rs 7,738. After the proposed budgetary provisions (DDT @25%), he will earn a net dividend of Rs 6,451.
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