The mutual fund industry has urged the government to restore long-term indexation benefits for debt schemes of mutual funds. With inflation eating into returns, real income earned by debt fund investors has taken a hit.

The industry is also keen to launch debt-linked savings schemes, supported by tax incentives, and is also seeking uniform tax benefits for NPS and mutual fund-linked retirement schemes.

Industry body Amfi, as part of its Union budget proposal, has said that over the past 3-5 years, debt funds have given returns of around 7 per cent.

With average inflation at around 5.5 per cent, real income earned by debt fund investors is only 1.5 per cent.

“It is our humble and logical request to kindly revisit the withdrawal of indexation on long-term debt investments and restore the status quo by amending the tax laws and reintroducing the indexation benefit on long-term capital gains from debt funds in respect of all debt investments in debt funds made up to March 31, 2023,” Amfi has said in its submission, adding that indexation is not a tax waiver but an inflation neutraliser.

Before the 2023 Union budget, investment in debt funds for more than three years was allowed to avail indexation benefits to mitigate the effect of inflation on capital gains.

In the 2023 budget, indexation benefits were discontinued prospectively for new investments from April 1, 2023, which implied that all investments up to March 31, 2023, could avail of indexation benefits. However, in the July 2024 budget, indexation benefit was withdrawn retrospectively affecting investments before April 1, 2023.

The real estate sector, which was also affected by the withdrawal of indexation benefits in the budget, later got a relief where taxpayers were allowed to calculate taxes under the new rule (12.5 per cent tax without indexation) and old rule (20 per cent tax with indexation) and pay the lower amount. However, such a benefit was not extended to debt funds.

Amfi further said that units of debt mutual funds held for more than 12 months should be taxed at the rate of 12.5 per cent similar to listed bonds. Following amendments in the Finance Act 2023, a debt mutual fund is considered as a short-term capital asset irrespective of its holding period.

Amfi has further proposed that mutual fund-linked retirement schemes (MFLRS)should be given similar tax benefits as applicable to the National Pension System (NPS) to eliminate tax arbitrage from similar products.

“A long-term product like MFLRS can play a catalytical role in channelising household savings into the securities market and bring greater depth. Such depth brought by the domestic institutions would help in balancing volatility and reducing reliance on FPIs,” Amfi said in its proposal.

Amfi further said that debt linked equity schemes can be launched by mutual funds to deepen the Indian bond market, supported by tax incentives from the government on lines similar to equity linked savings schemes where investments qualify for deduction up to ₹1.5 lakh.

“DLSS will provide an alternative fixed income option with tax breaks to retail investors and help them to participate in the bond market at low costs and a lower risk compared with equity markets,” said Amfi.

“Restoring indexation benefits for debt funds and rationalising the capital gains tax regime as well as the introduction of a debt-linked savings scheme can significantly bolster long-term savings and develop the Indian bond market.

“Harmonising tax treatments for pension-linked mutual funds and other investment avenues will also create a level playing field, driving financial inclusion,” said Venkat Chalasani, chief executive, Amfi.