Balanced advantage funds: A comprehensive taxation guide

Balanced advantage funds have become quite popular amongst investors over the years. Also known as dynamic asset allocation funds, these schemes invest dynamically across equity and debt. Based on market conditions, they change the allocation between the two asset classes to optimize the return potential.

This dynamic asset allocation is done by the fund manager on your behalf. Thus, as an investor, you get the benefit of professional management of both equity and debt investments in a single fund. But how does a balanced advantage fund’s tax efficiency work and what are the tax implications for investors?

Let's understand these aspects in detail.

• Table of contents

1. Tax treatment of balanced advantage funds
2. Taxation of equity-oriented balanced advantage funds
3. Taxation of Non-Equity Oriented Balanced Advantage Funds
4. Taxation of investments in balanced advantage funds

Tax Treatment of Balanced Advantage Funds

To understand the taxation of balanced advantage funds, we first need to know how mutual funds are classified from a tax perspective.

• Equity-oriented funds: These are funds that invest a minimum of 65% of their assets in equities or equity-related instruments.
• Non-equity oriented funds: These funds invest 35% or less of their assets in equities. They are primarily debt funds that invest in fixed income securities.

The tax treatment of balanced advantage funds depends on their equity allocation.

Equity-oriented balanced advantage funds are eligible for taxation benefits like lower long-term capital gains tax.

Gains earned from non-equity-oriented balanced advantage funds are added to your total taxable income for the year and taxed as per the income tax slab you qualify for, irrespective of the holding period.

Taxation of Equity-Oriented Balanced Advantage Funds

When the equity allocation in a balanced advantage fund is 65% or above, here is how it is taxed:

• Long-term capital gains: Gains made if units are redeemed after 1 year are tax-free up to Rs. 1 lakh. Any long-term gains above this limit are taxed at 10%.
• Short-term capital gains: Gains made if units are redeemed before 1 year attract 15% short-term capital gains tax.

So, equity-oriented balanced advantage funds allow you to enjoy the lower 10% tax rate on long-term gains, which makes them tax-efficient.

Taxation of Non-Equity Oriented Balanced Advantage Funds

If the equity exposure in a balanced advantage fund falls below 35%, it loses its equity-oriented status. Here's how it gets taxed:

• Capital gains: Irrespective of the holding period, all capital gains are taxed as per the income tax slab rates applicable to you. No distinction is made between short-term and long-term.

So, it is essential that the fund manager maintains the minimum 65% equity allocation if you want to enjoy the balanced advantage fund tax benefits.

Taxation of Investments in Balanced Advantage Funds

When you invest in a balanced advantage fund, units are allotted to you based on your investment amount and the Net Asset Value (NAV) on that day.

Later, when you redeem your units, the gain or loss is calculated as:

(Sale price - Cost price) x No. of units

Sale price: NAV on the day you redeem units

Cost price: NAV on the day you invested in units

This gain/loss qualifies as capital gains and is taxed accordingly.

Now let's understand how the holding period is calculated which determines if the gains qualify as long-term or short-term.

• Equity funds: The holding period rule is 1 year. So, if you remain invested for over 1 year before redemption – the gains are long-term. Less than 1 year – the gains are short-term.
• Non-equity funds: There is no distinction between short-term and long-term debt funds. Irrespective of how long you remain invested, gains are taxed at your income tax slab rate.

The calculation of the holding period starts from the day units are allotted to you.

For example, if you invested in an equity-oriented balanced advantage fund on 1 January 2022 and redeemed units on 15 March 2023, your holding period is 1 year and 2 months. This qualifies the gains as long-term.

Conclusion

Balanced advantage funds can help make your investing more tax-efficient compared to managing your equity and debt investments separately. However, maintaining the minimum 65% equity allocation is crucial to enjoy the taxation benefits. Review the fund's asset allocation and performance regularly. Use the capital gains statement to accurately file your tax returns. With some prudence, balanced advantage funds can add tax optimization to your portfolio.

Mutual Fund investments are subject to market risks, read all scheme-related documents carefully.
This document should not be treated as endorsement of the views/opinions or as investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.