Debt mutual fund tax rules: What happens to gains, gifting and exemption benefits?

Taxation on debt mutual funds has seen significant changes in recent years, leaving many investors confused about how gains are taxed, whether long-term capital gains apply, and what role holding period, income level, or gifting to family members plays in reducing tax liability on redemption.

Today's Q&A explains this in detail in response to a reader's query.

Since you had invested in the debt funds before 1st April 2023, the profits on redemption will be treated as long-term capital gains and taxed at a flat rate of 12.50% without indexation, as the indexation benefits have been removed w.e.f. 23 rd July 2024.

So if you redeem these bonds and opt for new tax regime, you will not have to pay any tax on your salary income because you are eligible for rebate under section 87A as your normal income taxable at slab rate does not exceed 12 lakhs but you will have to still pay tax at flat rate of 12.50% on the long term capital gains on redemption of debt funds bought before 1 st April 2023. You can save this long-term capital gains tax if you invest the net sale proceeds in acquiring a residential property. Looking at the small amount involved, this does not seem feasible to me.

In case you gift these investments to your mother, and she redeems/sells the same, the profits will be taxed in her hands as long-term capital gains because the period for which you held these debt funds will also be added to the period for which your mother holds it. Moreover, the cost of the bonds will also be the cost at which you acquired these bonds.

Since your mother does not have any other income, she can help you save tax on long-term capital gains if she opts for the new tax regime. The basic exemption limit for an individual opting for the new tax regime is four lakh rupees for the current financial year. In case the normal income is below the basic exemption limit, the resident individual taxpayers are allowed to set off their capital gains, on which tax at a special rate is payable, to the extent of such shortfall.

Since your long-term capital gains on these debt funds do not exceed four lakh rupees and assuming she does not have any other income, she will not have to pay any tax in respect of debts funds schemes transferred by you to her.

_Disclaimer: The views and opinions expressed above are those of respective experts/commentators and do not reflect the views of Upstox. The above Q&A is only for informational purposes and should not be considered investment or tax advice from Upstox. Please consult a tax expert for your complex tax problems. _