Experts have said the withdrawal of the long-term capital gains tax benefits available to debt mutual funds will deal a blow to this popular investment, which will now be taxed on par with bank deposits. The government said the move was aimed at ending tax arbitrage between similar instruments.
Finance secretary TV Somanathan said this will bring parity with instruments that are of a similar nature.
Finance minister Nirmala Sitharaman, who moved the amendments, raised the securities transactions tax (STT) rate on futures to 0.0125% from 0.01% and on options to 0.0625% from 0.05%. The amended Finance Bill doubled the withholding tax rate to 20% from 10% on royalty and fees for technical services payments to non-residents, and extended the 20% tax collection at source to all remittances even if within India, including payment by credit cards.
The Finance Bill was passed without discussion as Parliament continued to remain stalled over Opposition demands for a probe by a joint parliamentary committee into allegations against the Adani Group. It will now go to the Rajya Sabha and will become law once the President gives her assent.
Moving the bill for passage and consideration, Sitharaman also announced the setting up of a committee under the finance secretary to look into pension issues of government employees.The amendments provided several benefits and incentives for International Financial Services Centres (IFSCs) that will make them more attractive to investors.
GST Tribunals
On the indirect tax side, the Finance Bill amended Section 109 of the Central Goods and Services Tax (CGST) Act to set up tribunals in a time-bound manner, which is expected to help address litigation issues related to GST.
The government did not offer any relief related to the angel tax provisions in the budget that will come into force on April 1, 2024. A finance ministry official said that the concerns of the stakeholders will be addressed and the draft rules relating to valuations will be shared with stakeholders for inputs next month. Exclusions provided to domestic venture capital funds may be extended to similar overseas entities.
The government sources said income from debt mutual funds is in the nature of interest income and should be taxed accordingly, explaining the rationale for the change.
Currently, instead of distributing income to investors, debt mutual funds convert earnings into capital gains through the appreciation of unit value. If these units are held for more than three years, they are taxed at the long-term capital gains rate of 20% with indexation for inflation.
In some cases, indexation reduces the tax rate to less than 10%.
Gains from investment in debt funds – where not more than 35% is invested in equities -will now be treated as short-term capital gains and taxed at the taxpayer’s applicable slab. This will bring debt funds on par with bank deposits, ending the arbitrage they have enjoyed.
The measure will impact debt funds, which currently hold over Rs 12 lakh crore. Banks may see a rise in deposits following tax parity with debt funds. The new regime will apply prospectively to investments made after April 1, 2023.
This will impact gold funds and international funds predominantly invested in debt.
The change is in line with the budget proposal to tax market-linked debentures. The budget provided that capital gains earned on redemption of market-linked debentures (MLDs) would be treated as short-term capital gains taxable at slab rates without any indexation benefit, irrespective of the holding period.
The February budget proposed to increase the rate of tax collected at source (TCS) on foreign remittances for purposes other than education and medical treatment, and overseas tours under the Liberalised Remittance Scheme (LRS) from 5% to 20%. Credit card payments made in India for foreign tours will now be covered under the regime for LRS and also be subject to 20% TCS, a measure that may impact the outbound tourism industry.
Additionally, the amendments also provide that TCS will be levied on all LRS even if within India to bring parity with similar payments. Currently, when money is remitted by residents to Gift City, there is no TCS. Earlier, 5% TCS was levied on foreign outward remittances above Rs 7 lakh.
The budget had also proposed that the income received by real estate and infrastructure investment trust (REIT and InvIT) unitholders in the form of ‘repayment of debt’ will be taxed from April 2024 as other income which was otherwise not taxable. The government has now said that only a portion of this will be taxed after adjusting for the cost of acquisition, which will reduce the incidence of tax.
These instruments are used by the government in its asset-monetisation programme.
“The government has allowed the benefit of cost against the return of capital component for the unitholders and the tax exemption has been extended to other income arising for sovereign wealth funds/pension funds as unitholders of business trusts,” said Naveen Aggarwal, partner, tax, KPMG in India.
The budget provided that income up to Rs 7 Lakh would not be taxable under the new regime through a rebate mechanism. The amendments address an anomaly wherein if taxable income exceeds Rs 7 lakh even by a small amount, say Rs 5, the taxpayer would see an immediate Rs 26,000 tax liability. The amendment provides marginal relief so that the additional tax would not be more than the amount by which income exceeds Rs 7 lakh.
ADIA Investment in GIFT
Investment entities owned by the Abu Dhabi Investment Authority (ADIA) will be eligible for capital gains tax exemption on relocating to GIFT. An amendment to the Finance Bill 2023 makes a specific provision for ADIA-owned investment vehicles as it defined the scope of this benefit. This benefit will be available to any entity in which ADIA is the direct or indirect sole shareholder or unitholder or beneficiary or interest holder and such investment is wholly owned and controlled by ADIA or the government of Abu Dhabi, the amendment said.
This is expected to spur investment from ADIA into GIFT.