Will Budget 2023 bring in tax parity between mutual funds and ULIPs?

Mutual funds have been asking for a tax party between equity mutual funds and Unit Linked Insurance Plans or ULIPs for a very long time. With the budget around the corner, the Association of Mutual Funds in India had sent some important proposals to the Ministry of Finance for consideration. The list also includes the tax parity.

Returns from equity mutual funds are taxed depending on the period of holding the investment. ULIPs are not taxed as they are considered insurance products.

The mutual fund industry has been asking the government to bring parity in tax treatment on capital gains from mutual fund investments and ULIPs as they think it will help mutual fund penetration better and in financialisation of assets.

Will this demand be fulfilled in the upcoming budget is yet to be seen. However, industry participants say that this move can be really beneficial for the investors. They say that for investors to objectively evaluate identical products and make wise investment decisions, it is critical to put them on an equal footing with one another.
“Frequently, marketing a product is driven by ancillary factors like tax advantages and others rather than its intrinsic value and investment appeal. As a result, while making investment selections, investors tend to focus more on these short-term gains than on long-term benefits and whether the product satisfies their needs. One of such ancillary benefits tends to be tax advantage. Therefore, it would be prudent to bring both, mutual funds and ULIPs at par with each other so that investors invest in them based on the product’s investment appeal and their suitability in the portfolio,” says Himanshu Srivastava, Associate Director – Manager Research, Morningstar India.

Long-Term Capital Gains (LTCG) arising out of the sale of listed equity shares and Units of equity-oriented mutual fund schemes are now taxed at the rate of 10%, if the LTCG exceeds Rs 1 lakh in a financial year. However, the proceeds from ULIPs of Insurance companies are exempted from income tax under Section 10(10D) of Income Tax Act, if the sum assured in a life insurance policy is at least 10 times the annual premium and withdrawn after a lock-in of 5 years, even though ULIPs are also investment products that invest in equity stocks, just like mutual funds, and with added advantage of tax deduction under Section 80C of the Income Tax Act on the premium paid.

Hence, the capital gain tax rates are in favor of ULIPs. SEBI, in its “Long Term Policy for Mutual Funds”, published in 2014, had emphasized that similar products should get similar tax treatment, and the need to eliminate tax arbitrage that results in launching similar products under supervision of different regulators.Apart from this, there are other steps that the industry expects to bring the two instruments at the same level. However, the industry participants say that many of these steps might not be taken for various reasons.

“The MF industry is expecting the Budget 2023 to bring in some more parity in tax treatment of ULIPs and Mutual Funds by removing or lowering the 2.5 lacs premium limit on ULIPs or including Debt MFs and other categories of mutual funds under the purview of 80C investments. We do expect some relief in taxation of mutual funds to bring it in par with ULIP investment. However, the taxation of these two investments may not be exactly the same. This is because ULIP as a product is not just the market linked investment, but it also provides the insurance risk cover. This expected move will definitely impact the mutual fund industry positively and boost the mutual fund investments which will lead to increased participation from the retail investors in this segment,” says Manish P Hingar, Founder, Fintoo, an online financial planning platform.