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How Will Dividend Distribution Tax Affect Your Mutual Fund Portfolio?

Adhil Shetty

The budget this year saw the introduction of a 10% Dividend Distribution Tax (DDT) in the case of equity instruments, such as equity Mutual Funds. Read on to know what should be your investment strategy now.

How Will Dividend Distribution Tax Affect Your Mutual Fund Portfolio?

In his Budget 2018 speech, Finance Minister Arun Jaitley proposed among other things, the introduction of a 10% Dividend Distribution Tax (DDT) in the case of equity instruments, such as equity mutual funds.

The proposed change is in order to provide a level playing field across growth and dividend-oriented schemes, by segueing with the Long Term Capital Gains Tax (LTCG) on equity.

Impact of the Tax

In short, the DDT is a tax levied by the fund house before releasing the dividend. While it may be 10% on paper, you should also keep in mind that there is the 12% surcharge and 4% cess, potentially taking it up to 12.942%.

This is expected to come into effect on April 1, 2018. You can expect fund houses to declare large dividends before March 31 to escape the immediate purview of the DDT.

Reconsider Investment Strategies

Nevertheless, if you are invested in a dividend plan at present, it may be prudent to change tack. If you don’t need the dividends, you are better advised to opt for the growth plan in a mutual fund. There, LTCG is imposed only at the time of redemption – and it is applicable only on gains greater than Rs. 1 Lakh in a financial year.

Debt Funds

The tax regime for Debt Mutual Funds is unchanged. Debt funds pay a DDT, and such was introduced to reduce the arbitrage between bank deposits and debt mutual funds. The tax incidence for such debt mutual funds is at 28.84%.

While this move overall will hit dividend seekers and/or senior citizens, it might make investors – current and future – gravitate to growth options of respective mutual funds, and keep their portfolio churn to a minimum. In any case, equity is a long-term product and the tried and tested ‘buy and hold’ strategy is expected to continue generating healthy returns for all investors oriented toward the long term.

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