Library / Income-tax Act, 2025: The Professional's Master Guide
12. Taxation of Investment Products
Individual investors hold a mix of products. This chapter explains how each is taxed in practice and highlights points that are often missed.
12.1 Mutual funds
Situation | Tax treatment |
|---|---|
Dividend (IDCW) option | Distributions taxable at slab rates; TDS at 10% above Rs. 10,000 |
Growth option | Tax only on redemption as capital gains |
Switch from one scheme to another, or from regular to direct plan | Treated as redemption and fresh purchase: capital gains arise |
Systematic withdrawal plan | Each withdrawal redeems units on first-in, first-out basis; only the gain part is taxed |
Arbitrage funds | Treated as equity-oriented (65% or more in equity, including arbitrage positions) |
International equity funds and funds of funds | Generally long-term after 24 months at 12.5%, unless they qualify as equity-oriented; check the fund's classification |
Bonus stripping | If units are bought within 3 months before the record date for bonus and the original units are sold within 9 months after, the loss is ignored and added to the cost of bonus units (section 175) |
Illustration 76: SWP from an equity fund Kamal invested Rs. 10 lakh in an equity fund in April 2024 at NAV Rs. 50 (20,000 units). In 2026-27 he withdraws Rs. 60,000 when NAV is Rs. 75, redeeming 800 units. Cost = 800 x 50 = Rs. 40,000. Gain = Rs. 20,000, long-term (held more than 12 months), covered by the Rs. 1,25,000 exemption. Only a third of each withdrawal is gain, which makes SWPs tax efficient. |
12.2 Bonds, deposits and small savings
Product | Tax treatment |
|---|---|
Bank FDs and recurring deposits | Interest taxable; banks report and deduct TDS on accrual for cumulative deposits, so report on accrual to match AIS |
Tax-free bonds | Interest exempt; capital gains on sale taxable |
Listed taxable bonds | Interest taxable; LTCG at 12.5% after 12 months |
Unlisted bonds and market-linked debentures | Gains always short-term at slab rates |
Senior Citizens Savings Scheme, NSC, post office deposits | Interest taxable (NSC interest accrues yearly and is deemed reinvested); section 123 benefit for the principal in the old regime |
PPF and Sukanya Samriddhi | Fully exempt |
Sovereign gold bonds | Interest taxable; redemption on maturity by original subscribers exempt; secondary buyers taxed on redemption from 2026-27 |
12.3 Insurance
- Life insurance policies issued after 1 April 2023 with aggregate annual premium above Rs. 5 lakh (non-ULIP): maturity proceeds in excess of premiums are taxable as income from other sources.
- ULIPs with annual premium above Rs. 2.5 lakh: treated as capital assets; equity-oriented ULIPs taxed like equity funds.
- Death benefits are always exempt.
12.4 REITs and InvITs
Distributions by business trusts come in parts: interest, dividend, rental income and repayment of debt or capital. Interest and rental parts are taxable in the unit holder's hands; dividend is exempt only if the underlying company has not opted for the concessional regime; amounts distributed as repayment of debt are taxed as income to the extent they exceed the cost of units, as per recent amendments. The trust reports the break up each year; use it in the return.
12.5 Gold, real estate funds and alternatives
- Physical gold and jewellery: long-term after 24 months at 12.5%; gold ETFs are listed and long-term after 12 months.
- Peer to peer lending: interest is taxable; losses on defaults are generally not deductible for individuals not in the business of lending.
- Virtual digital assets: 30% flat, no set off of losses, 1% TDS.
- Foreign shares and funds: long-term after 24 months at 12.5%; report in Schedule FA; TCS on LRS remittances above Rs. 10 lakh at the applicable rate, creditable against tax.
Key point Always reconcile investment income with the AIS. Registrars and fund houses report every redemption; the gain computed in the return must match the transaction details, or a mismatch notice follows. |
Chapter summary • Mutual fund switches and SWPs are redemptions; only the gain part of each withdrawal is taxed. • Debt funds bought after 1 April 2023 are always short-term; listed bonds and gold ETFs are long-term after 12 months. • High premium insurance policies lose the maturity exemption. • Reconcile every investment transaction with the AIS. |
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