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Income tax impact of switching in mutual funds explained in 5 points
January, 27th 2021

The mutual fund industry has sought uniformity in the tax treatment for switch transaction in respect ULIPs and mutual fund products


Here are 5 things to know:

1) Under current income tax laws, switching is considered as a sale or redemption for the source scheme and a purchase for the destination scheme and attracts capital gains tax.

2) Switching of investment in units within the same scheme of a mutual fund from growth option to dividend option (or vice-versa), and from regular plan to direct plan or (or vice-versa) is considered a “transfer" and is therefore liable to capital gains tax, even though the amount invested remains in the mutual fund scheme, even though there are no realized gains, as the underlying securities/ portfolio remains unchanged within the scheme.

3) However, the switching of investments to/from investment plans to another within the same Unit Linked Insurance Plan (ULIP) of insurance companies is not considered as a “Transfer" and hence, not subjected to any Capital Gains Tax.

4) The mutual fund industry in its proposals for Budget 2021 has said that "there is need to have uniformity in the tax treatment for “switch" transaction in respect ULIPs and mutual fund products to have a level playing field."

5) It is to be noted transfer of units of a mutual fund from one plan to another under the process of consolidation of the plans within schemes of mutual funds are not regarded as transfer and hence, not charged to capital gains.

How gains from mutual funds are currently taxed:

Currently, long-term capital gains (LTCG) arising out of the sale of listed equity shares and units of equity-oriented mutual fund schemes are now taxed at the rate of 10%, if the LTCG exceed ₹1 lakh in a financial year ( gains up to January 31, 2018 being grandfathered).

Short term capital gains (if the units are sold before one year) in equity mutual funds are taxed at the rate of 15%.

Long term capital gains on debt mutual fund units held for more than 36 months are taxed at 20% after adjusting for indexation.

Short-term capital gains on units held for 36 months or less are added to the income of the individual and taxed as per the applicable slab rate.

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