How Will Finance Bill 2023 Affect Debt Mutual Funds Investors?

The long-due Finance Bill finally got an upper hand on March 24th in Lok Sabha however, the investors and even the traders seem to be disappointed by the amendments the bill has brought. Especially abolishment of the tax advantage for the debt funds has come as a big blow for the debt investors and also for the mutual fund houses. This move by the government was quite unexpected especially when the Lok Sabha Elections are just around the corner. So, if you are having investments in debt funds or hybrid funds, here are the details you should know.

Taxation of Debt Funds

As per the Finance Bill 2023, any mutual fund which has less than 35% of its assets under management into domestic equity will no longer enjoy the indexation benefit and will be charged as per slab rate or short-term capital gains taxes will be levied. This means the debt funds, where the fund holds more debt instruments or even hybrid funds with a higher portion of debt instruments will lose the long-term capital gain taxes with indexation benefit from the 1st of April, 2023.

At present and till 31st of March, 2023, debt funds will be taxed as per long-term capital gain taxes if held for three years or more, where either 20% tax is levied with indexation benefit or 10% without the indexation benefit. Now, with the implementation of the new regulations from April 1st, the investors who will redeem the funds will have to pay taxes as per their slab rate which can be quite higher than the present rates.

What does it mean to a debt investor?

Debt funds are quite popular amongst risk-averse investors and also for diversification in the portfolio to reduce risks. Another reason to invest in debt funds is the tax benefit which has been removed by this Finance Bill. At present, the debt funds which the investor holds for three years or more enjoy long-term capital gain taxes benefits with indexation as well. If the funds are held for less than three years, then only short-term capital gain taxes are applicable at the slab rate.

Now, with these changes as per the Finance Bill, whether an investor holds the fund for three years or redeems it before three years or holds the same for longer than three years has nothing to do with the taxes levied on the same. This means from the 1st of April, whenever you redeem your debt funds, you will be paying taxes on the gains as per your tax slab.

So, if a person falls under the higher tax slab of 30% then he will be paying 30% tax on the gains from the sale of the debt funds which is quite higher than the maximum taxes charges at present which are 20% along with indexation benefit or 10% without indexation benefit.

For instance, at present if you sell your debt fund and earn a profit of Rs. 100000 you will be paying long-term capital gain taxes @10% without indexation benefit which will be Rs. 10000. However, after the 1st of April, if you sell the fund and earn Rs. 1 lakh as profit, and you fall under 30% tax slab, then you will be paying Rs. 30000 as taxes.

Are all debt funds affected? s

With the implementation of the amendment mentioned above related to debt funds, not all debt funds will be affected. Yes, only those which are for medium to long-term investment purposes will be affected or to be specific help for more than three years. The liquid funds, low-duration funds, short-term funds, Ultra short-term funds or overnight funds will not be affected as it has nothing to do with the long-term capital gain taxes.

What is the idea behind this move?

While there is a lot of speculation around this amendment in the Finance Bill, two of the most prominent factors behind this move can be –

• Increasing attractiveness towards fixed deposits of banks. In the present scenario, banks are sulking in most cases. To give the required boost to the banking sector, this change may have been brought in. After the implementation of this amendment, the fixed deposits and the long-term debt fund will be at par as per tax advantages, where at present, debt funds had an upper hand compared to FDs when it comes to tax advantages.
• The second factor is to bring investors to domestic equity as equity funds have all the benefits and now debt funds have none. This is probably to help the economy grow and fund the businesses in the country.

Whatever may be the idea behind this move by the Finance Minister, it turned the world upside down for the debt-fund investors as well as the fund managers who manage debt funds. The only way to make debt funds popular again is to get higher returns from them, at least higher than fixed deposits.