Impact of Budget on Investment in Stocks and MFs

V K Vijayakumar

Taxation impacts returns from investment. Union Budget 2018 has some important provisions, which will have implications for investment in stocks and mutual funds.

For stocks, till now, Long Term Capital Gains (gains from selling stocks after holding for a minimum of one year) have been exempted from taxation. Budget 2018 changed this. LTCGs beyond Rs. 1 lakh will be taxed at 10 per cent without indexation. All capital gains till January 31, 2018 will be grandfathered, that is, LTCGs till that date will be exempted from taxation. There are no changes in Short Term Capital Gains (STCG) tax, which will continue at 15 per cent and dividends from stocks up to Rs. 10 lakh a year will continue to be tax-free.

Mutual Funds
There are changes in taxation of mutual funds also. LTCGs from equity funds, hybrid funds (funds which invest 65 per cent or higher in equity) and equity savings funds were exempted from tax. Dividends from these funds were also exempted from tax. Budget 2018 removed these exemptions. LTCGs from these funds will be subject to 10 per cent LTCG tax. Here also the grandfathering treatment will be available, that is, LTCGs up to January 31, 2018 will now be exempted from taxation. STCGs will be taxed at 15 per cent. Dividends will be subject to 10 per cent tax.
For debt funds/debt-oriented income funds like MIPs there are no changes in taxation.

The tax structure with effect from April 1, 2018 for mutual funds can be summarized as follows:
Tax benefit U/S 80C for ELSS (Equity Linked Savings Scheme) continues without change.
Even though the favourable tax treatment for equity and equity-oriented mutual funds has been slightly reduced by this budget, they continue to get better tax treatment compared to other asset classes. Exemption of equity dividend up to Rs. 10 lakh from tax, definition of long-term for equity/equity-oriented funds as one year, LTCG tax at 10 per cent, exemption of LTCGs up to Rs. 1 lakh a year from tax and the grandfathering provision continue to be favourable tax treatment. When we consider the superior returns from equity, the new tax proposals will have only marginal impact. During the last 38 years (from Sensex 100 in 1979 to Sensex around 34,000 at present), equity, as measured by the index, has delivered a Compound Annual Growth Rate (CAGR) of more than 15 per cent. If we assume similar returns in future too, even after LTCG tax of 10 per cent, investors will get an annual CAGR of 13.5 per cent. This is hugely superior to returns from other asset classes.

The new tax proposals are short-term-sentiment-negative from the market perspective, but this is not likely to impact the flows into equity and mutual funds. Since equity out-performs other asset classes in the long run, equity and equity-oriented funds will continue to attract funds and deliver superior returns.