A Debt fund is a liquid fund. It means that you can redeem your investments at any time and the money will be credited to your bank account. Most debt funds do not have exit loads as compared to regular equity Funds. However, some debt funds may have exit loads if redeemed within 3 to 6 months. Unlike other tax saving schemes such as PPF, and senior citizens scheme, there is no cap on the investment that can be made in such funds.
A debt fund, if held for longer than a one year period will be treated as a long term debt fund. Any capital gain that arises on the sale of a long term debt fund will be taxed at either 10% or 20%. The 10 % tax rate will be applicable when the investor does not want to use an indexation benefit to increase his purchase cost. With indexation benefit, however the debt funds get taxed at 20%. The longer a debt fund is held the longer indexation benefits will be applicable.
A debt fund held for lesser than 1 year will be termed as a short term debt fund. Any capital gains that arise on such a fund will be taxed at the normal taxation rate of 30%.
It is important to note that there is no TDS on debt mutual funds. The TDS will only be applicable on redemption of the funds.
Generally Debt funds are termed as a better alternative to traditional fixed deposits and are more liquid without attracting any penalties. The interest rate on debt funds is generally higher than that on fixed deposits and are more attractive in a sluggish equity market
In FD’s the investor needs to pay regular tax on his FD interest and that is applicable on a year on year basis. In the case of debt funds the tax on incomes/gains on debt funds is deferred until redemption of the fund. In this way, the tax obligation of the investor reduces when he has parked his money in debt funds.
(Author Aashish Ramchand is Chartered Accountant by profession & Co-Founder of www.makemyreturns.com & can be reached at email@example.com)
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