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Home > Business > Special


New taxes & new schemes

Kayezad E. Adajania, Outlook Money | March 12, 2007

The finance minister has increased dividend distribution tax (DDT) for liquid and money market schemes. Currently these schemes pay 14.03 per cent DDT (including  surcharge) on dividends declared. Effective 1 April 2007, they will have to pay 28.30 per cent, including surcharge.

Your liquid fund returns would go down to this extent, even though these dividends continue to be tax-free in your hands. Other debt funds, like bond, gilt, Fixed Maturity Plans, Monthly Income Plans remain unaffected.

Reduced edge. This move reduces the edge that liquid funds had over other traditional savings instruments such as bank fixed deposits, for investors in the higher tax slabs. An investment of Rs 10,000 in a dividend plan of a liquid fund that earns seven per cent returns (simple annualised) for six months will now yield Rs 10,543.3.

Earlier, the same investment would have yielded Rs 10,613.9.

So far, high net worth individuals and corporates have avoided bank deposits and parked excess cash in the dividend plans so that they could pay lower tax and pocket the dividend. The problem is compounded in liquid and money market schemes where around 95 per cent of the corpus are formed by corporate money.

What should you do? If you are in the highest tax bracket (30 per cent), continue with liquid funds. Assuming that a liquid fund would return around seven per cent in the next six months, an investment of Rs 10,000 would yield around Rs 10,543.3. A State Bank of India fixed deposit of equivalent maturity yields 6.5 per cent per annum interest that is taxed at your income tax rates.

An investment of Rs 10,000 here would yield Rs 10,091.7 after six months. For  investors in the 10 and 20 per cent tax brackets, bank FDs are more tax efficient than liquid funds. However, check out the FD rates before you decide.

MIN abolished. You will no longer need the Mutual Funds Identification Number (MIN) for your mutual fund (MF) investments. Now, it will be mandatory for investors to quote only their Permanent Account Number (PAN), across investments. Expect the Securities and Exchange Board of India (Sebi) to issue guidelines for the same.

Says Ajay Bagga, CEO Lotus MF: "This will be a big relief for investors who were applying for MINs. This will help reduce paperwork and costs for mutual funds, distributors and Registrars as well as investors."

New funds. Budget 2007 seeks to converge regulations that allow investors and mutual funds to invest in overseas securities. Currently, Indian funds can collectively invest $3 billion in foreign equity and debt securities, subject to 10 per cent of the net assets managed by each of them as on 31 March of each relevant year and subject to a maximum of $150 million per fund.

Further, mutual funds will now be allowed to launch infrastructure funds. Currently, the equity-oriented infrastructure theme funds present in the Indian mutual fund industry, invest in infrastructure companies. However, in the absence of any further clarification, we assume that Sebi may soon allow funds to launch schemes that will invest directly in infrastructure projects.

Reducing the Tax arbitrage

 

    Old Scenario

New Scenario

For liquid funds <1yr

Dividend plan
(pre budget)

Dividend
plan

Growth
plan

Bank
FD
1

Amount invested (Rs)

10,000

10,000

10,000

10,000

NAV

10

10

10

 

Units

1,000

1,000

1,000

 

NAV

10.7

10.7

10.7

 

Dividend 7%

0.7

0.7

Nil

 

Total dividend/int. declared(Rs)

700

700

Nil

650

Units bought by dividend

Nil

Nil

Nil

 

Net dividend received (Rs)

614

545

Nil

 

Tax distribution (Rs)

86

155

233.1

216.6

NAV at the end of 6 months

10

10

10.7

 

Units at the end of 6 months

1,000

1,000

1,000

 

Amount at redemption (Rs)

10,613.90

10,545.30

10,466.90

10,433.36

The above example is simple annualised. FD: Fixed Deposit   NAV: Net asset value
1SBI FD of equivalent tenure (6 months) that pays 6.5% interest per annum


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