Tax Benefits of Investing in Mutual Funds

Tax Benefits of Investing in Mutual Funds

The mutual fund tax exemption is applicable when the total returns earned on the mutual fund investment are not more than INR 1 lakh and if you are redeeming the units after 1 year. This is applicable in the case of equity mutual funds.

This article covers: 

Mutual Fund Tax Benefit

Here is a table summarizing the tax benefits of investing in mutual funds:

Nature of ProfitsTaxation 
STCG15% 
LTCG10% (if returns earned are more than Rs 1 Lakh in a financial year)
  • Tax Deductions under Section 80C

Section 80C of the Income Tax Act of 1961 allows investors to claim deductions up to Rs. 1.5 lakh. That is to say, if an investor invests in a mutual fund like Equity Linked Savings Schemes (ELSS) that qualify for tax deductions under Section 80C, they can claim a deduction up to Rs. 1.5 lakh from their taxable income. As a result, the investor’s tax bill goes down.

  • Capital Gains Tax Benefits

Those who invest in mutual funds might realize capital gains by selling their holdings at a profit. Depending on how long an investor keeps their money in a mutual fund, they may owe either short-term or long-term capital gains tax.

If you have held the investment for less than 1 year, it is regarded as STCG or short-term capital gains and the interest earned on the investment will be taxed at 15%. On the other hand, if you held the investment for more than a year, it is regarded as LTCG or Long term capital gains and the interest earned on the investment will be taxed at 10% (only if the total interest earned is more than 1 lakh). 

  • Tax on Dividend Income

From 1st April 2020, the dividend income tax is now fully taxable in the hands of investors and it is taxed according to the investor’s tax slabs. This income is added to the total income under the section “income from other sources”.

However, if the dividend in a financial year is more than ₹5,000 in a financial year, then it will attract a TDS (Tax Deducted at Source) at the rate of 10% under Section 194K of the Income Tax Act, 1961. The amount deducted as TDS by the AMC (Asset Management Company) will be deducted from the investor’s final tax liability in a financial year. 

Mutual Funds Under 80C

ELSS mutual funds come in the category of equity-oriented mutual funds as they invest 80% of the funds in stocks. For tax purposes, investors invest in ELSS mutual funds to get tax benefits of up to Rs. 1.5 lakhs under Section 80C of the Income Tax Act, 1961. They have a lock-in period of 3 years. Hence, you can’t redeem your investments from the ELSS fund until three years have passed. It’s important to consider your investment horizon before investing in an ELSS mutual fund. 

One thing you need to keep in mind is that investing in ELSS funds can be risky as they majorly invest in equity. So, make sure to do proper research about the fund objective, and fund manager’s experience and consider macroeconomic factors before investing. 

ELSS mutual funds compete with other tax saving instruments such as PPF (Public Provident Fund), NPS (National Pension Scheme), Tax Saving Fixed Deposits, National Saving Certificates, etc. 

Best Tax Saving Mutual Funds (Data as of 19 April 2023)

The best tax-saving mutual funds are given below in the table: 

ELSS mutual fund name NAVAUM (Fund Size)Lock-inMin. Investment
Quant Tax Plan Direct-Growth₹ 250.36₹ 3,198 Crs3 YearsSIP ₹500 &Lump Sum ₹500
Bandhan Tax Advantage (ELSS) Direct Plan-Growth₹ 111.94₹ 4,169 Crs3 YearsSIP ₹500 &Lump Sum ₹500
PGIM India ELSS Tax Saver Fund Direct-Growth₹ 27.06₹ 471 Crs3 YearsSIP ₹500 &Lump Sum ₹500
Kotak Tax Saver Fund Direct-Growth₹ 85.86₹ 3,400 Crs3 YearsSIP ₹500 &Lump Sum ₹500
Mirae Asset Tax Saver Fund Direct-Growth₹ 33.98₹ 14,448 Crs3 YearsSIP ₹500 &Lump Sum ₹500
Canara Robeco Equity Tax Saver Direct- Growth₹ 125.03₹ 4,924 Crs3 YearsSIP ₹500 &Lump Sum ₹500
SBI Long Term Equity Fund Direct Plan-Growth₹ 253.11₹ 12,336 Crs3 YearsSIP ₹500 &Lump Sum ₹500
DSP Tax Saver Direct Plan-Growth₹ 88.83₹ 10,179 Crs3 YearsSIP ₹500 &Lump Sum ₹500
HDFC Taxsaver Direct Plan-Growth₹ 860.3₹ 9,815 Crs3 YearsSIP ₹500 &Lump Sum ₹500
Tata India Tax Savings Fund Direct-Growth₹ 31.83₹ 3,073 Crs3 YearsSIP ₹500 &Lump Sum ₹500
Franklin India Taxshield Direct-Growth₹ 965.54₹ 4,602 Crs3 YearsSIP ₹500 &Lump Sum ₹500
Motilal Oswal Long Term Equity Fund Direct-Growth₹ 30.21₹ 2,191 Crs3 YearsSIP ₹500 &Lump Sum ₹500
Sundaram Tax Savings Fund Direct₹ 348.96₹ 933 Crs3 YearsSIP ₹500 &Lump Sum ₹500
ICICI Prudential Long Term Equity Fund (Tax Saving) Direct Plan – Growth₹ 642.34₹ 9,835 Crs3 YearsSIP ₹500 &Lump Sum ₹500

Do you want to expand your knowledge about mutual funds? We’ve got a list of must-read blogs that will help you do just that. Just click on the articles to find out more.

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AMFI mutual fund
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Structure Of Mutual Funds
Mutual Fund Cut Off Time
Difference Between Annual Return And Absolute Return
ELSS mutual funds

Tax Benefits of Investing in Mutual Funds- Quick Summary 

  • ELSS mutual funds provide tax benefits to investors under Section 80C of the Income Tax Act.
  • Returns earned from ELSS mutual funds are tax-free if the investor redeems the units after one year and if the total returns are not more than INR 1 lakh.
  • Capital gains tax is applicable on mutual fund investments depending on the holding period of the investor.
  • As per the amendment in 2020, dividends received from mutual funds are taxed according to the investor’s income tax slabs. If the dividend income in a financial year is more than ₹5,000, then it will attract a TDS of 10%.  
  • ELSS mutual funds are equity-oriented funds that invest 80% of their funds in stocks and have a lock-in period of three years. So, it is important to consider your risk appetite and investment horizon before investing. 
  • Proper research about the fund objective, fund manager’s experience, and macroeconomic factors should be done before investing in ELSS mutual funds.
  • Some of the best ELSS mutual funds are Quant Tax Plan Direct-Growth, ICICI Prudential Long Term Equity Fund (Tax Saving) Direct Plan-Growth, Motilal Oswal Long Term Equity Fund Direct-Growth, Canara Robeco Equity Tax Saver Direct- Growth, Motilal Oswal Long Term Equity Fund Direct-Growth, etc. 

Tax Benefits of Investing in Mutual Funds- FAQ

1. What is Tax Saving Mutual Fund?

ELSS mutual fund is a tax-saving mutual fund. It helps you to decrease your taxable income as this investment allows you to claim a tax exemption of INR 1,50,000 U/S 80C. Also, these funds have the potential to grow your funds over a long period. 

2. Which SIP is Tax Free Under 80C?

SIPs made in Equity Linked Saving Schemes (ELSS) are tax-free under 80C. It falls under the Exempt, Exempt, Exempt (EEE) category, which means that the amount invested along with the maturity amount, and the withdrawal amount are all tax-free.

3. How do I avoid Tax on Mutual Funds?

  • Invest for the long-term as LTCG tax rates are comparatively lower than STCG tax rates.
  • Consider investing in ELSS mutual funds as they offer tax benefits under Section 80C.
  • Offset capital gains with losses under tax loss harvesting strategy. This can help reduce your overall tax liability.

4. Which Mutual Fund is Best for Tax Exemption?

ELSS mutual fund is best for tax exemption as it allows you to claim a tax deduction of INR 1,50,000 U/S 80C. This mutual fund not only helps you save tax but also allows you to earn returns in the long run. 

5. Which Mutual Fund is Best for 80C?

  • Mahindra Manulife ELSS Kar Bachat Yojana Direct Growth
  • Quant Tax Plan Direct Growth
  • Bank of India Tax Advantage Direct Growth
  • SBI Long Term Equity Fund Direct Plan Growth
  • IDFC Tax Advantage (ELSS) Direct Plan Growth

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