Mutual Fund Taxes from Dividend Earnings
Income earned from mutual funds fall in two categories - dividend and capital gains. Considering that tax implications can have a significant impact on the earnings of an investor, it is necessary to understand the rules that apply to mutual fund taxes for dividends and other distributions.
In India, as per existing tax provisions, income from dividend earnings is tax free in the hands of the investor. This however does not mean that no mutual fund taxes are paid. To the contrary, there is a tax levy of 12.5% of the dividend declared as distribution tax. This amount of tax is paid from the profit/reserves of the mutual fund scheme declaring the dividend. Though the investor may not feel the impact of tax directly, it is indirectly borne by the investor.
Kinds of Dividends
Mutual fund taxes are different for various dividends received from mutual funds. If the mutual fund holds stock for more than one year and sells it for capital gain, then part of the dividend from this fund will be treated as long-term capital gain, allowing the investor to benefit from lower tax rates that apply to thank kind of income.
Ordinary dividends are all types of taxable income except long-term capital gains. There is a differential tax rate for these dividends as this category can include qualified dividends that are taxed are lower rates.
Capital gain distributions usually qualify for favorable tax treatment. However, when the mutual fund distributes short-term capital gains, it is included in ordinary dividends. Mutual funds invested in municipal bonds, or state government bonds are exempt from mutual fund taxes.
Capital gains from mutual funds are of two types - short term and long term. This classification is based on the period of holding. If the investment is sold within 365 days from the date of purchase, any capital gain made would be treated as a short term nature. Such a capital gain will be treated as a part of the total income and mutual fund taxes will be chargeable at the normal rate of tax. If the mutual fund is sold after 365 days from the date of purchase, any capital gain made during that period will be treated as a long-term capital gain and is taxed at a lower rate.
Long term capital loss can be set off only against long term capital gains. Short term capital can be set off against any capital gains, whether short term or long term.
