Exchange traded funds (ETFs) and Gold ETFs, which have seen their assets grow 42.3 per cent and 49.6 per cent between April 2023 and June 2024, have been spared from short term capital gains taxation under section 50AA of the Income Tax Act following a tweak in the definition of specified mutual funds in the budget.

The Finance Act 2023 had introduced a special taxation regime of deemed short term capital gains taxation for market linked debentures and specified mutual funds through the introduction of section 50AA of the Income Tax Act.

Specified mutual funds were defined as a mutual fund by whatever name called, where not more than 35 per cent of the total proceeds is invested in equity shares of domestic companies.

The gains in such cases were to be taxed as short term capital gains irrespective of the period of holding. This had prompted the mutual fund industry to seek a clarification from the government that whether ETFs, Gold ETFs, fund of funds (FoFs) should not be considered as specified mutual funds.

“The requirement of investment of not more than 35 per cent in equity shares has also impacted other funds, which are not debt oriented funds, but invest below 35 per cent in equity shares. Such funds which are adversely impacted include ETFs, gold mutual funds and gold ETFs. In case of fund of funds as well, wherein the underlying fund further invests in other instruments, there is ambiguity as to whether they will be considered specified mutual funds as defined in section 50AA,” the explanatory memorandum to the Finance Bill 2024, said.