Inflation reduces the purchasing power of money over time. This means that part of an asset’s increase in price may reflect inflation rather than an increase in its real economic value. Indexation was designed to recognise this difference by adjusting the asset’s purchase cost before calculating taxable long-term capital gains.
The indexation of mutual fund investments was once relevant to eligible debt-oriented funds. However, the rules have since changed. For mutual fund units transferred on or after 23 July 2024, indexation is no longer available, irrespective of when the units were acquired.
Understanding the earlier calculation can still help investors read old transaction records and make sense of how capital-gains taxation has evolved.
Key Takeaways
- Indexation adjusts an asset’s purchase cost for inflation using the Cost Inflation Index published by the Central Government.
- The indexation benefit reduces the taxable gain by increasing the recognised cost of acquisition, but it does not change the actual purchase price.
- Mutual fund units transferred on or after 23 July 2024 do not qualify for indexation under the current capital-gains framework.
- Debt mutual fund units acquired on or after 1 April 2023 may be deemed short-term capital assets under Section 50AA if they meet the definition of a specified mutual fund.
- The current tax treatment depends on the type of fund, purchase date, holding period and date of transfer, so older holdings should be reviewed carefully.
What is indexation?
Indexation is a tax calculation method that adjusts the cost of acquiring an asset to account for inflation between the year of purchase and the year of sale.
Without indexation, capital gain is generally measured using the original purchase cost:
Capital gain = Sale value – Original cost of acquisition – Eligible transfer expenses
Where indexation was available, the original cost was replaced with an inflation-adjusted cost:
Indexed capital gain = Sale value – Indexed cost of acquisition – Eligible transfer expenses
A higher indexed cost could result in a lower taxable long-term capital gain. Indexation did not increase the amount originally invested or change the actual return. It affected only the amount used for tax calculation.
Does indexation apply to mutual funds now?
No. Under the capital-gains rules that took effect on 23 July 2024, indexation was removed for long-term capital gains covered by Section 112, alongside the introduction of a 12.5% long-term capital-gains rate without indexation.
As a result, mutual fund units transferred on or after 23 July 2024 do not receive an indexation benefit. This applies even if the units were purchased before that date.
Units bought before 1 April 2023 may still receive long-term or short-term classification based on the applicable fund category and holding period. However, an older acquisition date does not restore indexation when the transfer occurs on or after 23 July 2024.
Equity-oriented mutual funds were already taxed under a separate framework without indexation. The more significant historical impact of the change concerns debt-oriented and certain other non-equity mutual funds.
Source: Income Tax Department FAQs on the capital-gains tax regime introduced from 23 July 2024.
The tax information in this article is based on prevailing laws at the time of publishing the article and is subject to change. Please consult a tax professional or refer to the latest regulations for up-to-date information.
How did indexation work in mutual funds?
Before the tax reforms, eligible long-term capital gains on certain non-equity mutual funds could be calculated after adjusting the purchase cost for inflation. The process broadly worked as follows:
- The investor identified the financial year in which the units were purchased.
- The Cost Inflation Index for the purchase year was noted.
- The CII for the year of sale was identified.
- The purchase cost was adjusted using the ratio of the two index values.
- The indexed cost was deducted from the sale value.
- Tax was calculated on the resulting long-term capital gain at the rate then applicable.
For certain debt-oriented mutual fund investments, the earlier framework generally required a holding period of more than 36 months for the gain to be treated as long term. These historical rules should not be applied to current transactions.
How to calculate indexation
The historical calculation for indexation used the following formula:
Indexed cost of acquisition = Original cost of acquisition x (CII for year of sale / CII for year of purchase)
The indexed capital gain was then calculated as:
Indexed capital gain = Sale value – Indexed cost of acquisition – Eligible transfer expenses
The Cost Inflation Index was used for the financial year of purchase and the financial year of sale. The investor’s actual purchase price was not altered.
Historical indexation calculation example
Suppose an eligible asset was purchased in FY 2018–19 for ₹1 lakh, when the CII was 280. It was sold in FY 2022–23 for ₹1.50 lakh, when the CII was 331.
Indexed cost = ₹1,00,000 x (331 / 280)
Indexed cost = approximately ₹1,18,214
The indexed capital gain would have been:
₹1,50,000 – ₹1,18,214 = approximately ₹31,786
Without indexation, the gain based only on the original cost would have been ₹50,000. Under the historical rules, indexation reduced the taxable gain to approximately ₹31,786.
This example explains the former calculation and should not be used to claim indexation on a current mutual fund transaction.
The figures shown are for illustrative purposes only.
What is the Cost Inflation Index?
The Cost Inflation Index is a measure notified by the Central Government for calculating the indexed cost of eligible long-term capital assets. It provides a standardised way to adjust acquisition cost for inflation across financial years.
The CII does not track the exact price increase of a particular asset or the personal inflation experienced by an investor. It is a statutory tax index used where the law permits indexation.
For FY 2026–27, the notified CII is 384. The previous values include 376 for FY 2025–26, 363 for FY 2024–25 and 348 for FY 2023–24.
These current values do not make mutual funds eligible for indexation. They remain relevant only to assets and transactions for which indexation continues to be permitted under the applicable tax provisions.
Source: Income Tax Department’s notified Cost Inflation Index table, updated through FY 2026–27.
Which mutual funds are eligible for indexation benefits?
No mutual fund category currently receives indexation for units transferred on or after 23 July 2024.
The position can be summarised as follows:
| Mutual fund category or transaction | Current indexation position |
| Equity-oriented mutual funds | Indexation is not available. |
| Specified mutual funds acquired on or after 1 April 2023 | Gains are deemed short term under Section 50AA, and indexation is not available. |
| Older debt-oriented mutual fund units | The gain may qualify as long term depending on the applicable rules, but indexation is not available for transfers on or after 23 July 2024. |
| Other non-equity mutual funds | Long-term classification may apply depending on the category and holding period, but indexation is not available. |
The terms “debt fund”, “hybrid fund” and “specified mutual fund” should not be used interchangeably for tax purposes. The fund’s actual portfolio composition and the statutory definition applicable during the relevant tax year need to be checked.
How are specified mutual funds treated?
Section 50AA contains a special rule for units of specified mutual funds acquired on or after 1 April 2023. Gains from these units are deemed to arise from short-term capital assets, regardless of how long they are held.
From 1 April 2026, a specified mutual fund broadly means:
- A mutual fund investing more than 65% of its total proceeds in debt and money-market instruments; or
- A fund investing 65% or more of its proceeds in units of such a fund.
The relevant percentage is based on the annual average of daily closing figures. Because gains covered by Section 50AA are deemed short term, they do not qualify for indexation.
Source: Section 50AA published by the Income Tax Department.
What was the impact of indexation on debt funds?
Under the earlier framework, indexation could reduce the taxable long-term capital gain on eligible debt mutual fund units. The calculation recognised that part of the increase in redemption value may have reflected inflation over the holding period.
The tax treatment changed in two stages:
- From 1 April 2023, gains from units of specified mutual funds acquired on or after that date were deemed short term under Section 50AA.
- From 23 July 2024, indexation was removed from long-term capital gains under the revised capital-gains framework.
The purchase date still matters because it can affect whether Section 50AA applies and whether the gain may qualify as long term under another provision. But no current mutual fund redemption receives indexation merely because the units were purchased before April 2023.
Why is indexation still relevant?
Although indexation is no longer available for mutual funds, the concept remains relevant for a few reasons:
- Reading historical records: Investors may encounter indexed costs in tax statements relating to eligible transfers completed under the earlier rules.
- Understanding inflation-adjusted gains: The calculation shows how tax law historically separated part of an asset’s nominal price increase from its inflation-adjusted gain.
- Calculating gains on eligible assets: CII continues to apply in situations where current tax law specifically permits indexation.
- Reviewing tax changes: Understanding the earlier method makes it easier to compare the old 20% indexed framework with the present 12.5% unindexed long-term capital-gains framework.
Indexation knowledge is therefore still useful, but it should not be presented as a current mutual fund tax advantage.
Are there strategies to maximise indexation benefits?
There are no current strategies of indexation that can make a mutual fund redemption eligible for the benefit. Holding a mutual fund for an additional financial year, delaying redemption or timing a transaction around a change in CII does not restore indexation where the law does not permit it.
Under the earlier rules, some investors considered holding periods and financial-year boundaries when planning eligible transactions. Applying those historical methods to present mutual fund investments would be inaccurate.
Tax considerations may still influence the timing of a redemption, but that is separate from indexation. Any decision should account for the fund category, purchase date, holding period, applicable tax rate and the investor’s circumstances.
Conclusion
Indexation once allowed eligible investors to adjust the purchase cost of certain mutual fund units for inflation before calculating long-term capital gains. That indexation benefit is no longer available for mutual fund units transferred on or after 23 July 2024.
The formula and CII remain useful for understanding historical calculations and other eligible assets. For current mutual fund transactions, however, the relevant factors are the fund category, acquisition date, holding period and the tax provisions applicable on the date of transfer.
FAQs
What is indexation in simple words?
Indexation adjusts an asset’s purchase cost for inflation before calculating taxable long-term capital gains. A higher adjusted cost can reduce the taxable gain where indexation is legally permitted.
Is indexation applicable to mutual funds?
No. Indexation is not available for mutual fund units transferred on or after 23 July 2024, even if the units were purchased before that date.
How is indexation calculated?
Multiply the original purchase cost by the CII for the sale year and divide it by the CII for the purchase year. This produces the indexed cost of acquisition.
What is the indexation rule?
The indexation rule adjusts the acquisition cost of an eligible long-term capital asset using the government-notified Cost Inflation Index. It applies only where the prevailing tax law specifically permits it.
Which mutual funds are eligible for indexation benefits?
No mutual fund category currently qualifies for indexation on units transferred on or after 23 July 2024. Older acquisition dates do not restore the benefit.
Are short-term investments eligible for indexation?
No. Indexation is associated with eligible long-term capital assets and does not apply to short-term capital gains. Specified mutual fund units covered by Section 50AA are deemed short term.
Do mutual fund units purchased before April 2023 receive indexation?
No, if they are transferred on or after 23 July 2024. Older units may receive long-term classification depending on the applicable rules, but their cost is not indexed.
What is the CII for FY 2026–27?
The Cost Inflation Index for FY 2026–27 is 384. This figure applies only where indexation is permitted and does not make mutual fund gains eligible for
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