How will dividend distribution tax affect your mutual fund earnings?

Dividend distribution tax (DDT) is a tax that is imposed by the government on companies based on dividend paid to a company's investors.

Finance minister Arun Jaitley in his Budget 2018 speech has proposed to introduce DDT on equity mutual funds at the rate of 10%, to provide a level field across growth-oriented and dividend distributing schemes. 

The proposed change in Capital Gains Tax will bring marginal revenue gain of about Rs 20,000 crore in the first year, according to the finance minister.

DDT will reduce in-hand returns of investors. Fund houses have to deduct DDT before declarying dividend.

With this tax, investors relying on dividends from equity funds such as balanced funds might have to reconsider their investment strategies. 

Analysts say, now growth option could be more suitable and to meet regular income needs the investors might not opt for the Systematic Withdrawal Plan (SWP) henceforth as in SWP, the gains will still be taxed and therefore may not help much in reducing tax liability.

Dividends received from all mutual funds are tax-free in the hands of the investors. 

However, debt funds pay  DDT. The DDT in debt mutual funds was introduced to reduce the arbitrage between bank fixed deposit and debt funds. Equity mutual funds, however, do not pay  dividend distribution tax.

Mutual fund schemes that invest less than 65% of the corpus in equity are categorised as non-equity funds and they are taxed as applicable on debt mutual funds.

DDT on all non-equity funds such as money market, liquid, and debt funds is 25% plus 12% surcharge plus 3%cess, totalling to 28.84%, according to ET.

'Disclaimer: This story is for informational purposes only and should not be taken as investment advice.'