In order to provide investors with a diverse portfolio, hybrid mutual funds are a form of investment vehicle which typically invests in a blend of stocks, bonds, and other assets. Securities like mutual funds that have debt or equity proportions exceeding 35% but below 65% are considered hybrid securities. Following the budget 2023, hybrid instruments held for longer than a year are now more tax advantageous than debt funds because they are subject to a 20% tax rate and may even be eligible for an indexation benefit. Contrarily, the sale of debt mutual funds is subject to a slab rate of taxation that can reach 30%. Hence, here’s how can you lower your higher tax liability by investing in hybrid funds based on...
In order to provide investors with a diverse portfolio, hybrid mutual funds are a form of investment vehicle which typically invests in a blend of stocks, bonds, and other assets. Securities like mutual funds that have debt or equity proportions exceeding 35% but below 65% are considered hybrid securities. Following the budget 2023, hybrid instruments held for longer than a year are now more tax advantageous than debt funds because they are subject to a 20% tax rate and may even be eligible for an indexation benefit. Contrarily, the sale of debt mutual funds is subject to a slab rate of taxation that can reach 30%. Hence, here’s how can you lower your higher tax liability by investing in hybrid funds based on a discussion with multiple industry experts.
Atul Sharma, Founder, Lex N Tax
Investing in hybrid funds can potentially help lower your tax liability, but it is important to understand how hybrid funds work and how they can impact your taxes.
Hybrid funds are mutual funds that invest in a mix of equity and debt securities. They can be classified into three categories based on their asset allocation: conservative, balanced, and aggressive. Conservative funds typically have a higher allocation towards debt securities, while aggressive funds have a higher allocation towards equity securities.
When you invest in a hybrid fund, you are indirectly investing in both equity and debt securities. The returns generated by these funds are a combination of dividend from equity and interest income from debt. In India, equity-oriented hybrid funds have a tax advantage over pure debt funds, as they qualify for long-term capital gains tax of 10% without indexation on gains above Rs. 1 lakh if held for more than one year. However, pure debt funds are taxed at a higher rate, based on the individual’s tax bracket. Amendment to finance bill 2023 has scrapped the benefit of indexation on debt mutual fund. Earlier it was taxed at the rate of 20% with indexation benefit if held for more than three years.
In India, dividend income from mutual funds is subject to a dividend distribution tax (DDT). However, equity-oriented hybrid funds (where at least 65% of the fund’s assets are invested in equities) are exempt from DDT. So, if you invest in such a hybrid fund and earn dividends, you will not have to pay any DDT, which can result in lower tax liability. It is also important to note that if hybrid fund is Hybrid Equity oriented funds (Investment in Equity is≥ 65%) held for less than 1 year then it will attract short term capital gain u/s 111A at 15%.
Investing in hybrid funds, especially equity-oriented ones, can potentially help reduce your tax liability by generating long-term capital gains, which are taxed at a lower rate than short-term capital gains or interest income. However, it is important to note that hybrid funds are subject to market risks (due to its equity element) and can potentially result in losses.
Additionally, it is crucial to consult a financial advisor or tax professional and do proper research on past track record of fund before investing in any financial instrument to ensure it aligns with your overall financial goals and is suitable for your individual tax situation.
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