The Hindu : Business : Guessing game for mutual funds

Online edition of India's National Newspaper
Tuesday, Jul 13, 2004

Business

Business

Guessing game for mutual funds

By S. Varadharajan

CHENNAI, JULY 12. The budget proposals on transaction tax and the alleged discrimination of mutual funds have been among the focal points of criticism from the share market. The Finance Minister has promised to revisit the turnover tax rates though not the tax itself. Meanwhile, the abolition of long term capital gains tax on securities and a flat 10 per cent tax on short term capital gains proposed in the latest Union Budget will not be applicable to mutual fund units, according to officials from Sundaram Asset Management Company, fund managers of Sundaram Mutual Fund.

As for dividends distributed by equity-oriented schemes, these will continue to be exempted while the income distributed by debt-oriented schemes will attract 12.5 per cent plus the new education cess for individuals and Hindu undivided families. For payments to others (corporates), the distribution tax will now be 20 per cent plus the applicable surcharge and cess.

According to fund managers of Sundaram Mutual Fund, if mutual fund units are viewed as conforming to the definition of securities under the Securities Contracts Regulation Act 1956 (SCRA) (a matter which is still being debated), then the preliminary assessment is that the growth option of debt schemes may be more tax-efficient than the dividend option, as the short-term capital gains tax on redemption of units will be 10 per cent against the 12.5 per cent dividend distribution tax for retail investors and 20 per cent for corporate investors.

Since the tax on capital gains on securities will be either nil or at a lower rate, there will be a revenue loss for the Government and, hence, the budget proposes to collect tax at 0.15 per cent on the transaction value of the securities. This will result in higher cost of investments in mutual fund schemes and will have an impact on the yields, according to the fund managers.

According to Dhirendra Kumar, CEO, Value Research, an independent provider of investment information on mutual funds, the budget contains some measures that will deal severe damage to mutual fund investors.

These aberrations should be corrected before they become law. For small and individual investors, mutual funds are safer and convenient than investing directly in the markets, he points out.

According to Mr. Dhirendra Kumar, the debt fund taxation and turnover tax are the two disasters that have befallen on investors. The Government has drastically reduced the tax on capital gains that short-term equity investments bring. It has also eliminated tax on gains made from long-term equity investments.

This is a great measure. However, it has not extended this new tax regime to investments in equity mutual funds. In effect, the Government has made equity fund investments far more taxable than playing the stock markets directly. There can be no possible theoretical or practical justification for this.

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