Costs and Taxes Associated With Investing In Mutual Funds

Priyanka Sharma

01 Jun 2017

New Page 1

The best things in life are free. However, realistically speaking, it may have some charges associated with it. Your child’s laughter is free. However, if your child is not a kid anymore, the laughter would be possible only if you bought them what they want. Your child could want a gaming console or a foreign trip. The laughter, in this case, involves some monetary charges. This is also true when it comes to Mutual Funds. You will get returns on your investment; however, there are certain charges and taxes that would be levied.

Let’s glance at the charges and taxes that you will have to shell out when investing in mutual funds.

Charges

1. Entry Load:  The charges levied by an asset management company (AMC) when you purchase a mutual fund is called Entry Load. This is a one-time charge. While this charge could increase your buying cost, this has been abolished for Indians by Securities and Exchange Board of India (SEBI).

2. Exit Load: This is the charge levied by the AMC when you sell off your units before a stipulated time. This is also a one-time charge. From a broader perspective, these charges favor you as an investor. Mutual funds use these charges as a deterrent so that you do not exit the investment avenue without earning substantial profits. These charges are also imposed to safeguard other investors who are with the fund for a longer time as any investor’s exit could increase the cost for other investors. The exit load is charged according to a pre-defined holding period cut-offs. The AMC may not levy any charges if the fund’s objective is to be a short-term fund. The exit load is usually between 1-3% depending on the exit timeline specified by the AMC.

3. Transaction Charges: Since 2011, SEBI has allowed AMCs to collect a nominal charge if the investment is above Rs. 10,000. This is the final one-time direct charge for now. If the investment amount is less than Rs. 10,000, then no investment charge would be levied. The investment charges are Rs.150 for a new investor and Rs. 100 for an existing investor. In case of systematic investment plan (SIP), if your total investment is more than Rs.10,000, a transaction charge of Rs.100 would be payable in 4 equal installments.

4. Expense Ratio: The expenses incurred by the AMC are not borne by them; they are borne by the investors. This is charged daily and the daily NAV is adjusted accordingly. The charges that AMC can incur are fund management fees, marketing/selling expenses, Audit charges, Registrar fees, Trustee fees and Custodian fees. Of these charges, fund management fees and marketing/selling expenses could be charged by the AMC at their own discretion. The other charges are the actual expenses that the AMC will actually incur while managing the funds.

5. Other Indirect Charges: When an AMC proposes a new fund offer, it incurs certain charges as well. These charges can be 6% of the total net assets and can be adjusted in over a period of 5 years. There are other minor one-time charges when you invest in mutual funds. If you invest in ETFs, you need to open an account. You will need to pay maintenance charges and broker charges as well. Mutual funds are also required to pay a security transaction tax while buying and selling stocks. This is also ultimately borne by the investors.

Taxes

1. Tax Deducted at Source: Tax deducted at source or TDS is the tax that the government collects on the returns on your investment. This is usually 10% of the returns. There would not be any tax on the dividend distribution or re-purchase proceeds to Indian resident investors.

2. Securities Transaction Tax: This tax is applicable only on funds dealing with equities, derivatives and mutual funds. STT can be collected for selling and purchasing through stock exchanges. STT is not applicable for debt, debt-oriented or commodities mutual funds.

3. Dividend Distribution Tax: The dividend distributed by debt-oriented mutual fund schemes is also taxed as dividend distribution tax (DDT). This additional tax is not applicable for any equity-oriented funds.

4. Capital Gains Tax: The government levies capital gains tax on investments that are supposed to be long term but are cashed in the short term. For equity-oriented schemes, capital gains tax is not applicable if the fund is held for more than a year. For debt-oriented scheme, there is no capital gains tax if the investment is held for more than 3 years.

Bottom Line

As Albert Einstein famously said—The hardest thing in the world to understand is the Income Tax. Thus, most charges and taxes can be difficult to understand. Now that you know what are the taxes and charges associated when buying mutual funds, you can make an informed decision.

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Why to Choose Mutual Funds Instead of Directly Investing Into Equities?

Whether to invest in equities or mutual funds is a question that has plagued every investor. As someone who needs the best value for his/her investment should you invest in equity directly or via mutual funds?

Let’s start by first understanding what these two terms ‘equities’ and ‘mutual funds’ stand for-

Equities- Equities generally represent ownership of a company. If you own any equity in a company, you are a part owner of the said company (depending on how much equity you own).

Mutual Funds – It is an investment scheme which is professionally managed by an asset management company. It pools together the resources of a group of people and invests their money in equities, debentures, bonds and other securities.

Why choose mutual funds over equities?

For people who’ve never invested in either stocks or mutual funds, it is hard to know which is better and where to start. Broadly speaking, if you are a novice investor, mutual funds are not only less risky but also way easier to manage. Here are some ways in which investing in mutual funds is beneficial as opposed to investing in equities -

Diversification

Mutual funds provide more diversification as compared to an individual equity stock. When you invest in equity, you are investing in a single company which has its inherent risk. For example, if you invest Rs.20,000 in buying equities of one company, you could face a total loss if that particular company performs poorly in the market.  

If you invest the same amount in mutual funds, it will be invested in different kinds of stocks and financial instruments, high-risk and low-risk both, so you might not face total loss even if one company does poorly.

Scale of Investment and Lower Costs

For an individual investor buying and selling stocks is a difficult task due to its high price. Thus, any gains made from stock appreciation are nullified if the overall trading costs are considered. Comparatively with mutual funds, as the money is pooled from a large number of investors, the cost per individual is lowered.  

Another advantage of mutual funds is that you don’t need to invest large sums of money. Buying equities for a profitable venture needs huge amounts of money, a minimum of few lakhs. With mutual funds, you can start with Rs.1000 and earn profits on that as well.

Convenience

Keeping an eye on the markets everyday is a time-consuming business, especially if you are investing as a side gig. There are people who spend their lives studying the market and still end up sustaining heavy losses. Though investing in mutual funds does not guarantee high returns, it is stress-free and needs less work as compared to investing in equities.

To sum it up

It is important to remember that mutual funds have their own disadvantages as well. Thus, as with any financial decision, educating yourself and understanding the suitability of all the available options is the ideal way to invest. 


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Costs and Taxes Associated With Investing In Mutual Funds

Priyanka Sharma

01 Jun 2017

New Page 1

The best things in life are free. However, realistically speaking, it may have some charges associated with it. Your child’s laughter is free. However, if your child is not a kid anymore, the laughter would be possible only if you bought them what they want. Your child could want a gaming console or a foreign trip. The laughter, in this case, involves some monetary charges. This is also true when it comes to Mutual Funds. You will get returns on your investment; however, there are certain charges and taxes that would be levied.

Let’s glance at the charges and taxes that you will have to shell out when investing in mutual funds.

Charges

1. Entry Load:  The charges levied by an asset management company (AMC) when you purchase a mutual fund is called Entry Load. This is a one-time charge. While this charge could increase your buying cost, this has been abolished for Indians by Securities and Exchange Board of India (SEBI).

2. Exit Load: This is the charge levied by the AMC when you sell off your units before a stipulated time. This is also a one-time charge. From a broader perspective, these charges favor you as an investor. Mutual funds use these charges as a deterrent so that you do not exit the investment avenue without earning substantial profits. These charges are also imposed to safeguard other investors who are with the fund for a longer time as any investor’s exit could increase the cost for other investors. The exit load is charged according to a pre-defined holding period cut-offs. The AMC may not levy any charges if the fund’s objective is to be a short-term fund. The exit load is usually between 1-3% depending on the exit timeline specified by the AMC.

3. Transaction Charges: Since 2011, SEBI has allowed AMCs to collect a nominal charge if the investment is above Rs. 10,000. This is the final one-time direct charge for now. If the investment amount is less than Rs. 10,000, then no investment charge would be levied. The investment charges are Rs.150 for a new investor and Rs. 100 for an existing investor. In case of systematic investment plan (SIP), if your total investment is more than Rs.10,000, a transaction charge of Rs.100 would be payable in 4 equal installments.

4. Expense Ratio: The expenses incurred by the AMC are not borne by them; they are borne by the investors. This is charged daily and the daily NAV is adjusted accordingly. The charges that AMC can incur are fund management fees, marketing/selling expenses, Audit charges, Registrar fees, Trustee fees and Custodian fees. Of these charges, fund management fees and marketing/selling expenses could be charged by the AMC at their own discretion. The other charges are the actual expenses that the AMC will actually incur while managing the funds.

5. Other Indirect Charges: When an AMC proposes a new fund offer, it incurs certain charges as well. These charges can be 6% of the total net assets and can be adjusted in over a period of 5 years. There are other minor one-time charges when you invest in mutual funds. If you invest in ETFs, you need to open an account. You will need to pay maintenance charges and broker charges as well. Mutual funds are also required to pay a security transaction tax while buying and selling stocks. This is also ultimately borne by the investors.

Taxes

1. Tax Deducted at Source: Tax deducted at source or TDS is the tax that the government collects on the returns on your investment. This is usually 10% of the returns. There would not be any tax on the dividend distribution or re-purchase proceeds to Indian resident investors.

2. Securities Transaction Tax: This tax is applicable only on funds dealing with equities, derivatives and mutual funds. STT can be collected for selling and purchasing through stock exchanges. STT is not applicable for debt, debt-oriented or commodities mutual funds.

3. Dividend Distribution Tax: The dividend distributed by debt-oriented mutual fund schemes is also taxed as dividend distribution tax (DDT). This additional tax is not applicable for any equity-oriented funds.

4. Capital Gains Tax: The government levies capital gains tax on investments that are supposed to be long term but are cashed in the short term. For equity-oriented schemes, capital gains tax is not applicable if the fund is held for more than a year. For debt-oriented scheme, there is no capital gains tax if the investment is held for more than 3 years.

Bottom Line

As Albert Einstein famously said—The hardest thing in the world to understand is the Income Tax. Thus, most charges and taxes can be difficult to understand. Now that you know what are the taxes and charges associated when buying mutual funds, you can make an informed decision.

Have Referral Code?