Mutual fund taxation India 2026 — equity, debt, hybrid, international decoded

Budget 2024 was the biggest change in mutual fund taxation since 2018 — equity LTCG went 10% → 12.5%, STCG went 15% → 20%, the exemption threshold went ₹1L → ₹1.25L, debt MF indexation was removed. Budget 2026 added one more wrinkle: LTCL can no longer be set off against STCG (Section 74 rule restored). Here's the complete mutual fund tax framework for FY 2026-27.

The 4 MF categories — each taxed differently

MF Category	Holding period for LTCG	LTCG rate	STCG rate
Equity (≥65% equity)	12 months	12.5% above ₹1.25L	20% flat
Debt (≤35% equity post-Apr 2023)	N/A — always slab	Slab rate	Slab rate
Hybrid 65%+ equity	12 months	12.5% above ₹1.25L (equity-like)	20% flat
International / Gold MF	24 months	12.5% (no indexation post-Budget 2024)	Slab rate

The 65% equity threshold — why it matters

Whether an MF is "equity" for tax purposes depends on its average annual equity holding:

• 65%+ equity → equity tax treatment (LTCG 12.5%, ₹1.25L exemption, STCG 20%)
• 35% to 64.9% equity → "Equity-oriented hybrid" but for tax it's still equity if ≥65% average. Otherwise treated as debt. Verify with fund factsheet.
• ≤35% equity post-Apr 2023 → debt MF treatment, slab rate

Index funds, ETFs that track Indian indices (Nifty / Sensex / Nifty Next 50): equity-treated.

Debt MF post-Apr 2023 — the biggest hit

From 1 April 2023, debt mutual funds (any tenure, any holding period) are taxed at slab rate. The earlier LTCG benefit with indexation (effective ~12.5% for 30% slab) is gone for new investments.

Practical implication:

• A debt MF returning 7.5% to a 30% slab investor delivers 5.25% post-tax
• Same investor in a 7.1% PPF gets 7.1% tax-free — better
• For 30% slab investors, debt MF makes sense mainly for liquidity (parked corpus, 6 months horizon)

The ₹1.25 lakh equity exemption — use it every year

Equity MF LTCG (units held > 12 months) above ₹1.25L per year is taxed at 12.5%. Below ₹1.25L: tax-free. This resets every financial year. Don't carry forward.

Strategy — see our dedicated capital gains harvesting post. TL;DR: sell some units each March to book ₹1.25L of gain tax-free, reinvest immediately. Over 10 years saves ₹1–3 lakh of LTCG tax.

STCG hike — 15% → 20%

Equity MF held < 12 months → STCG at 20% flat (was 15% pre-Budget 2024). This makes short-term trading on MFs more expensive.

Workaround: if you must rebalance, prefer doing so on units held > 12 months (qualify for LTCG at 12.5% with exemption).

Hybrid funds — the classification trap

Hybrid funds straddle the 65% line. Quick reference:

• Aggressive hybrid (65–80% equity): equity tax treatment
• Multi-asset allocation (varies, usually 65%+ equity): equity if ≥65% on average
• Balanced advantage fund (BAF, dynamic asset allocation): equity if ≥65% average equity OVER the financial year
• Conservative hybrid (10–25% equity): debt tax treatment, slab rate
• Arbitrage funds (treated as equity by special carve-out, even though they hedge): equity tax

The 65%-on-average rule means a BAF that drops to 40% equity for half the year then goes 90% won't qualify. Always check the AMC's annual statement for actual equity percentage.

International funds — the surprise

Funds investing in foreign equities (US / global / emerging markets) are taxed as debt MF for Indian residents — slab rate, no equity benefit. The Indian tax department doesn't differentiate by underlying asset, only by where the fund is domiciled.

Pre-Budget 2024 these enjoyed indexation; now they're at full slab. International equity exposure via Indian feeder funds is significantly worse than direct stocks held via LRS (where LTCG above ₹1.25L applies at 12.5% with no indexation).

Gold MF / Gold ETF — also debt treatment

Gold MFs and Gold ETFs are treated as debt for tax (since 1 April 2023). Slab rate on any gain. The cleaner gold exposure:

• SGB (sovereign gold bond) — capital gain on holding to maturity is tax-free
• SGB in secondary market — LTCG 12.5% post-12 months
• Physical gold — LTCG 12.5% post-24 months (no indexation post Budget 2024)

SIP taxation — FIFO matters

When you sell units from a long-running SIP, the Income Tax Department applies First In First Out (FIFO). Oldest units get sold first. This is usually beneficial:

• Old units have lower cost basis → larger absolute gain
• Old units have qualified for LTCG (held > 12 months) → 12.5% rate
• Recent SIP tranches stay invested

Your broker / AMC report automatically uses FIFO. Don't try to "specific-lot" — Indian rules don't allow it (unlike US).

Dividend / IDCW — slab rate

Pre-FY21, dividends came tax-free with DDT (paid by fund). Now dividends from mutual funds are added to your income and taxed at slab rate. TDS at 10% if dividend > ₹5,000 in a year from any single fund.

Implication: always pick Growth option, not IDCW. IDCW units distribute partial corpus; you'd pay slab rate on what's essentially a forced sale of your own units. Growth lets you control the timing and qualify for LTCG.

Loss set-off rules — Budget 2026 update

Budget 2026 restored the Section 74 rule on losses:

• LTCL (long-term capital loss) → set off only against LTCG. Cannot set off against STCG any more.
• STCL (short-term capital loss) → set off against either STCG or LTCG (any capital gain)
• Carry forward — both LTCL and STCL carry forward 8 years if you file ITR on time

Practical: a debt MF loss (always STCG, since slab rate) can offset equity LTCG. Equity LTCL only offsets equity LTCG.

ITR reporting — Schedule 112A + Schedule CG

• Equity MF / listed equity sales → Schedule 112A (ITR-2 or ITR-3)
• Debt MF / hybrid / gold MF / international MF → Schedule CG (general capital gains)
• Brokers and AMCs provide pre-filled CSV / PDF — upload directly to the e-filing portal
• If you've harvested or sold > 100 units, ITR-1 can't be used; switch to ITR-2 or ITR-3

The post-tax IRR table

For a 30% slab investor, here's what each MF category roughly delivers post-tax (assuming category's historical avg gross return):

Category	Gross return	Tax	Net
Large cap equity (LTCG)	11%	~1.2%	~9.8%
Flexi cap equity (LTCG)	12%	~1.3%	~10.7%
Mid cap equity (LTCG)	14%	~1.5%	~12.5%
Aggressive hybrid (LTCG)	10%	~1.1%	~8.9%
Debt fund (slab)	7.5%	~2.25%	~5.25%
International equity fund (slab)	10%	~3%	~7%
Gold ETF / Gold MF (slab)	10%	~3%	~7%

Equity wins decisively post-tax. International funds and gold MFs are now squarely in the "use direct alternatives instead" zone.

Run your numbers

Use our capital gains calculator with FIFO-based purchase dates to project exact tax on any sale. Combine with SIP calculator for SIP-based portfolios.

FAQs

Is ELSS taxed differently than regular equity MF?

No. After the 3-year lock-in, ELSS taxes exactly like any equity MF — LTCG 12.5% above ₹1.25L. The 3-year lock-in is for the 80C deduction qualification, not tax of gains.

Are mutual fund switches (e.g., regular to direct) taxable?

Yes. A switch is treated as a redemption + new purchase. Same tax rules apply as a regular sale. Plan switches at start of FY when gains haven't accumulated, or just before a 12-month anniversary to qualify for LTCG.

What happens if I redeem during the LTCG/STCG cutoff (e.g., exactly 12 months)?

Income Tax Act counts 12 months as 365 days. Day 366 onwards qualifies for LTCG. Always redeem on day 366+ to be safe (some calculations are by month, some by date). Most brokers use exact-day rule.

Are debt funds completely useless now?

For 30% slab investors, mostly. They retain utility for liquidity (no exit load after 7-15 days vs FD's lock-in penalty) and short-term parking. For income, PPF / SCSS / G-Sec direct beat debt MF post-tax.

Is the ₹1.25L equity LTCG exemption per fund or in total?

In total across all equity funds + listed equity. The exemption is at the taxpayer level for the financial year.