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Mutual Funds

Mutual Funds

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Published by alan finian

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Published by: alan finian on Nov 24, 2009
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09/30/2010

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History of mutual funds
The modern mutual fund was first introduced in Belgium in 1822.This form of investment soon spread to Great Britain and France.Mutual funds became popular in the United States in the 1920s andcontinue to be popular since the 1930s, especially open-endmutualfunds. Mutual funds experienced a period of tremendous growth after World War II, especially in the 1980sand 1990s.What are mutual fundsA mutual fund is a managed group of owned securities of several corporations. These corporations receivedividends on the shares that they hold and realize capital gains or losses on their securities traded. Investorspurchase shares in themutual fundas if it was an individual security. After paying operating costs, theearnings (dividends, capital gains or loses) of the mutual fund are distributed to the investors, in proportionto the amount of money invested. Investors hope that a loss on one holding will be made up by a gain onanother. Heeding the adage "Don't put all your eggs in one basket" the holders of mutual fund shares areable collectively to gain the advantage by diversifying their investments, which might be beyond their financial means individually.A mutual fund may be either an open-end or a closed-end fund. An open-end mutual fund does not have aset number of shares; it may be considered as a fluid capital stock. The number of shares changes asinvestors buys or sell their shares. Investors are able to buy and sell their shares of the company at any timefor a market price. However the open-end market price is influenced greatly by the fund managers. On theother hand, closed-end mutual fund has a fixed number of shares and the value of the shares fluctuates withthe market. But with close-end funds, the fund manager has less influence because the price of theunderlining owned securities has greater influence.How do mutual funds earn moneyA mutual fund is a means of investing that enables individuals to share the risks of investing with other investors. All contributors to the fund experience an equal share of gains and losses for each dollar invested.A mutual fund owns the securities of several corporations. A mutual fund pools money from hundreds andthousands of investors to construct a portfolio of stocks, bonds, real estate, or other securities, according tothe kind of investments the mutual fund trades. Investors purchase shares in the mutual fund as if it was anindividual security. Fund managers hired by the mutual fund company are paid to invest the money that theinvestors have placed in the fund. Heeding the adage "Don't put all your eggs in one basket" the holders of mutual fund sharesare able to gain the advantage of diversification which might be beyond their financialmeans individually.Professional management of mutual fundsMutual funds useprofessional managersto make the decisions regarding which companies' securitiesshould be bought and sold. The managers of the mutual fund decide how the pooled funds will be invested.Investment opportunities are abundant and complex. Fund managers are expected to know what isavailable, the risks and gains possible, the cost of acquiring and selling the investments, and the laws andregulations in the industry. The ability of the managers to select profitable investments and to sell thoselikely to decline in value is a key factor for the mutual fund to earn money for the investors
 
What are the tax benefits investors get by investing in Mutual Funds?
 Since, April 1, 2003, all dividends declared by debt-based mutual funds are tax-free in the hands of theinvestor. A dividend distribution tax of 12.5% (including surcharge) is be paid by the mutual fund on thedividends declared by the fund.Investors in ELSS (equity-linked savings schemes) can avail rebate under Section 88 of the Income Tax Act,1961 on investment up to Rs 10,000 subject to the various conditions laid down in the said Section.The actual amount of rebate depends on the level of income of the investor.
Is a capital gain on sale/transfer of units of mutual fund liable to tax? If yes, at what rate?
Section2(42A): Under Section 2(42A) of the Act, a unit of a mutual fund is treated as short-term capital asset if thesame is held for less than 12 months. The units held for more than 12 months are treated as long-termcapital asset.
Section 10(38):
Under Section 10(38) of the Act, long-term capital gains arising from transfer of a unit of mutual fund is exempt from tax if the said transaction is undertaken after October 1, 2004 and the securitiestransaction tax is paid to the appropriate authority.
Section 111A:
Under Section 111A of the Act, short-term capital gains arising from transfer of a unit of mutual fund is chargeable to tax @ 10% (plus applicable surcharge) if the said transaction is undertakenafter October 1, 2004 and the securities transaction tax is paid.However, such securities transaction tax will be allowed as rebate under Section 88E of the Act if thetransaction constitutes business income.
Section 112:
Under Section 112 of the Act, capital gains, not covered by the exemption under Section10(38), chargeable on transfer of long-term capital assets are subject to following rates of tax:
Resident Individual & HUF --- 20% plus surcharge.
Partnership Firms & Indian Companies --- 20% plus surcharge.
Foreign Companies --- 20% (no surcharge).Capital gains will be computed after taking into account cost of acquisition as adjusted by Cost InflationIndex notified by the central government.'Units' are included in the proviso to the sub-section (1) to Section 112 of the Act and hence unit holders canopt for being taxed at 10% (plus applicable surcharge) without the cost inflation index benefit or 20% (plusapplicable surcharge) with the cost inflation index benefit whichever is beneficial.Under Section 115AB of the Income Tax Act, 1961, long-term capital gains in respect of units purchased inforeign currency by an overseas financial organisation held for a period of more than 12 months will be
 
chargeable at the rate of 10%. Such gains will be calculated without indexation of cost of acquisition. Nosurcharge is applicable for taxes under section 115AB, in respect of corporates.
What are the tax benefits for foreign investors?Section 115E:
Under Section 115E of the Act, capital gains chargeable on transfer of long-term capitalassets of an Non-Resident Indians (NRIs) are subject to following rates of tax:
Investment income: --- 20%
Long term capital gains: --- 10%
Section 10(23D):
Under provisions of Section 10(23D) of the Act, any income received by the Mutual Fundis exempt from tax.
Section 115R:
Under Section 115R, the Income distributed to a unit holder of a Mutual Fund shall becharged to following rates of tax to be payable by the Mutual Fund.
Amounts distributed to individual or HUF: 12.5%
Amounts distributed to others: 20.0%However, the above distribution tax will be exempted for open-ended Equity-Oriented Funds (funds investingmore than 50% in equity or equity related instruments).
Are there any other tax benefits related to mutual funds?
Under Section 88, contributions made from taxable income in the specified investments qualifies for a taxrebate of 20% where gross total income is up to Rs 150,000 and 15% of the invested amount where grosstotal income is between Rs 150,000 and Rs 500,000, subject to a maximum aggregated ceiling of Rs70,000.For investment in infrastructure bonds and/or equity-linked saving schemes (ELSS) (not exceeding Rs10,000/- under clause (23D) of Section 10), or eligible issue of equity shares or debentures the maximumqualifying investment limit for tax rebate is Rs 100,000. However, such tax rebate is not available in respectof tax on long-term capital gains as per Section 112 and short-term capital gains as per Section 111A of theAct.
Is there any wealth tax applicable to mutual fund investments?
No. Units held under the Scheme of the Fund are not treated as assets within the meaning of Section 2(EA)of the Wealth Tax Act, 1957 and are, therefore, not liable to Wealth Tax.
Is there any gift tax applicable to mutual funds investments?
No. Units of the mutual fund may be given as a gift and no gift tax will be payable either by the donor or thedonee; since mutual funds do not fall within the purview of the Gift Tax Act.

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