According to reports from Mint, debt mutual funds purchased after April 1, 2023, face significant tax changes. These funds are now taxed at income tax slab rates regardless of holding period, eliminating the previous indexation benefits and concessional long-term capital gains treatment. For investments made before this date, gains are still taxed as LTCG at 12.5% if held for more than 2 years, and as short-term capital gains at slab rates if held for 2 years or less. As per Univest, even after the April 2023 taxation change that removed indexation benefit, debt mutual funds retain advantages over FDs including better liquidity, no premature withdrawal penalty, and professional management of portfolio duration and credit selection. However, trigger-based redemptions after one year are generally more tax-efficient than short-term exits, with all gains added to total income and taxed as per slab rates, making frequent trigger-based redemptions in debt funds potentially lead to higher tax outgo and lower post-tax returns.
As reported by Mint, equity-oriented mutual funds are taxed based on holding period with different rates for short-term and long-term gains. Short-term capital gains (STCG) on units sold within 12 months are taxed at 20%, while long-term capital gains (LTCG) on units held for more than 12 months are taxed at 12.5% on gains exceeding ₹1.25 lakh in a financial year. LTCG up to this limit remains exempt from tax. For investors in the 30% tax slab, current effective tax on debt mutual fund gains is 31.2% including cess, similar to FD interest taxation. Trigger SIPs in equity funds work differently from regular SIPs, with investments happening only when trigger conditions are met, making taxation complex as each redemption is treated as a taxable event.
According to Mint, mutual fund dividends are now taxable in investors' hands after the abolition of Dividend Distribution Tax (DDT). Dividend income is taxed under 'Income from Other Sources' at the person's tax slab rate. Under Section 194K, mutual funds must deduct 10% tax deducted at source (TDS) if total dividend payout to an investor exceeds ₹10,000 in a financial year. When a mutual fund makes a capital gain or dividend distribution, the net asset value (NAV) drops by the amount of the distribution, though this does not impact the fund's total return. Tax-conscious investors should determine a mutual fund's unrealized accumulated capital gains, expressed as a percentage of its net assets, before investing in funds with significant unrealized capital gain components.
As reported by Mint, equity-oriented funds invest at least 65% of assets in domestic equity shares, including diversified equity funds, sectoral and thematic funds, and equity index funds. Debt funds with 35% or less domestic equity exposure are classified as non-equity funds. Individual investors generally need to file ITR-2 for mutual fund capital gains, but can file ITR-1 if LTCG from listed equity shares and equity mutual funds is up to ₹1.25 lakh. SEBI classifies debt schemes into 16 sub categories based on Macaulay duration, credit quality and instrument type, with the seven most relevant for retail investors being overnight funds, liquid funds, ultra short duration, low duration, short duration, corporate bond, and gilt funds.
According to Univest, the top performing debt mutual funds as of May 2026 include ICICI Prudential Short Term Fund with 7.58% 3Y CAGR, ICICI Prudential Corporate Bond Fund with 7.25% 3Y CAGR, and UTI Short Duration Direct-Growth with 7.15% 3Y CAGR. Overnight funds invest in securities with 1 day maturity, offering 6 to 6.5% annualized returns with effectively zero interest rate risk. Liquid funds invest in securities with up to 91 day maturity, providing 6.5 to 7.5% returns suitable for emergency funds. Short duration funds maintain Macaulay duration of 1 to 3 years with returns ranging 7 to 8.5%, while corporate bond funds invest at least 80% in AA+ and higher rated corporate bonds with 7 to 8.5% returns.
