Mutual fund returns are taxed only when you redeem units (or when the fund pays a dividend, called IDCW). Until then, growth inside the scheme is untouched — which is why long holding periods are so tax-efficient.
Two things decide your tax: what the fund holds (equity, debt or a mix) and how long you held the units.
Equity funds (65%+ in Indian equities, including ELSS)
Units held for more than 12 months are long-term. Gains above ₹1.25 lakh in a financial year are taxed at 12.5% without indexation. Units sold within 12 months are short-term and taxed at 20%.
The ₹1.25 lakh exemption is a combined annual limit across all your equity LTCG, not per fund. Rates shown are before surcharge and cess.
Debt funds bought on or after 1 April 2023
Gains are treated as short-term regardless of holding period and added to your income, so they are taxed at your slab rate. Indexation benefit is no longer available for these purchases.
Hybrid and other funds
Taxation follows the underlying allocation. Aggressive hybrids with 65%+ equity are taxed as equity funds. Conservative hybrids, gold and international funds generally follow the non-equity rules — for units held over 24 months, long-term gains are taxed at 12.5%.
Dividends (IDCW)
Dividends are added to your total income and taxed at your slab rate. The fund house deducts 10% TDS when payouts cross ₹10,000 in a year. For most investors the growth option is simpler and more tax-efficient than IDCW.
Practical ways to reduce the tax bill
Small changes in how you redeem can meaningfully change what you keep.
- Book equity gains up to ₹1.25 lakh each year rather than one large redemption
- Hold equity units past 12 months before switching schemes — a switch is a redemption
- Use SWP instead of lump-sum withdrawals so only the gain portion of each instalment is taxed
- Set off capital losses against gains; equity losses can be carried forward for 8 years
- Prefer growth over IDCW unless you specifically need the payout
Tax rules change with each Union Budget and your own situation matters. Treat this as a starting point and confirm the numbers for your financial year before you redeem — happy to walk you through it.