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Impact of the Union Budget 2015

The Union Budget made two announcements which impacted mutual funds. While the first one is positive, the second one has disappointed investors

As per the new Budget proposal, investors need not pay any short-term capital gains tax if their schemes merge. Also, with an increase in surcharge from 10 per cent to 12 per cent, debt fund investors will have smaller dividend payouts. Let's explore these two announcements.

Relief from the merger migraine
The finance minister has proposed tax neutrality on the merger of schemes in his Budget for FY2015-16. This has come as a huge sigh of relief for mutual fund investors. Earlier, mergers were considered fresh purchases in a fund and investors ended up paying the capital gains tax depending on the fact if the fund was an equity fund or a debt fund.

Now merger of schemes will not be considered fresh purchases. This means investors won't have to pay any capital gains tax due to merging of schemes. At the same time, the tenure of the scheme will be taken from the point the investor had bought the old scheme which got merged. This aspect is beneficial from a long-term point of view.

The proposal is expected to boost further consolidation of schemes as mutual fund houses can now merge schemes without worrying about the tax implications on investors. Schemes are merged because fund houses try to bring schemes of similar investment objectives under the same roof. Merger of schemes also promotes operational efficiencies.

Disappointment for debt funds
The Union Budget 2015 contained a small bit of bad news for debt mutual fund investors. The finance minister has increased the surcharge on the dividend distribution tax (DDT) on debt funds to 12 per cent. Debt funds used to pay 28.33 per cent (25 per cent DDT + 10 per cent surcharge + 3 per cent cess) with a surcharge of 10 per cent while distributing dividends. However, now they will have to shell out more because of the hike in surcharge. The effective rate of the DDT has been increased to 28.84 per cent (25 per cent DDT + 12 per cent surcharge + 3 per cent cess).

In the last Budget, in July 2014, it was proposed that debt funds would declare dividends on the gross income. So, if a fund had to pay `100 to the investor, it would have to first deduct the DDT at 28.33 per cent and pay only the remaining amount. Accordingly, the effective tax paid by the investor was 28.33 per cent.

After the latest hike in surcharge, investors will receive less dividend as the difference between the proposed DDT and the earlier one is around 0.51 percentage points.

Current (₹)Proposed (₹)
Amount of dividend100100
Rate of DDT (effective)28.3328.84
Payout to investor71.6771.16