MUMBAI: The government eliminated the tax arbitrage these schemes enjoyed over bank fixed deposits (FDs) and specific insurance policies on Friday by withdrawing indexation benefits for investors in debt mutual funds and several other types of schemes. Returns are computed under indexation benefits after accounting for inflation during the holding period.
Investors who held assets in debt, gold schemes, and some types of hybrid schemes for more than three years were eligible for these incentives.
According to the government, debt funds are any plans with less than 35% equity in their portfolio.
Veteran fund managers predict that the decision will hinder mutual fund retailization. According to D P Singh, deputy managing director & CBO, SBI MF, “Indexation was the most significant narrative for the industry’s efforts to retailise debt via debt mutual funds.”
“With the proposed changes, the entire ecosystem would undoubtedly be impacted, particularly the NBFC market. But, there are still numerous other advantages over conventional investing options with debt funds, so taxation should not be the only factor taken into account, according to Singh.
Value Research’s Dhirendra Kumar referred to the government’s action in a column as “the unfair tax.” “When you sell (these funds), the profits will only be applied to your income for that year, regardless of how long you held (debt funds).” As a result, it will be taxed according to the income tax bracket you are in, he stated.
According to Kumar, indexation is essentially an adjustment for inflation. “Neither a tax break nor a government gift, it is neither. It serves as compensation for inflation, the deterioration of money’s worth through time, and the fact that many alleged gains over the years were merely illusions.
The removal of indexation benefits for debt funds may reduce investor interest in these products, however international brokerage CLSA predicted that this change would have a “moderate to low” effect on asset management firms’ (AMCs’) revenues and profitability.
While the majority of an asset management company’s revenue and profitability come from equities (assets under management, or AUMs), and non-liquid loan AUMs are neither higher growth nor higher profitability categories, CLSA analysts estimate that this will have a moderate-to-low impact.
On the other hand, AMCs’ stocks experienced heavy selling on Friday.
UTI AMC suffered a 4.7% loss, Birla Sun Life AMC a 4.4% loss, and HDFC AMC a 4.2% loss.
Presently, over 19% of the nearly Rs 40 lakh crore total AUM of the fund industry is invested in non-liquid debt schemes, which will be impacted by the government action.
The non-banking financing companies (NBFCs) and housing finance companies (HBFCs), who receive the majority of their funding from the MF sector, are among the market areas that CLSA believes could be impacted by this move.
It stated that NBFCs and HFCs may need to rely more on bank finance rather than funding from mutual funds because of the possibility of fewer inflows into debt mutual funds.