Till now, income from mutual funds up to a maximum of Rs 15,000 was exempt from income tax under section 80L. Income in excess of the exemption limit was taxed as per the individual tax rate. The new regulation will particularly affect investors who have not exhausted their exemption limit and are not within the tax bracket. Considering that most of the investors in this segment are senior citizens who normally don't figure in the tax bracket and for whom every penny counts, areduction of 1.2 per cent in the return (assuming a dividend rate of 12 per cent) will adversely affect their income stream.

Besides, unlike equities, debt instruments as also debt mutual funds are less volatile and provide stable return in line with the prevailing interest rates.

With interest rates heading southwards, income funds are already under pressure to sustain yields. The additional tax burden on the funds is likely to push down the post-tax return even further. The growth plan of the income schemes will be no better as these will continue to attract capital gains tax on redemption. In the post-budget scenario, are debt fund still worth taking a look ? Here is a brief review.

Close-ended assured income schemes In a period of staggering volatility in the equity markets, investors have poured substantial funds into these schemes which seem as safe as bank deposits yet paying a higher return. UTI's hot selling products - the five Monthly Income Plans and two Institutional Investors' SpecialFund Unit Schemes launched during 1998 alone garnered around Rs 5,000 crore. Assuming that MIPs continue to maintain a total payout of 12.5 per cent per annum effectively assuring 11.36 per cent, in the following MIPs for this year, an investor putting in Rs 1 lakh in the scheme will receive a monthly income of Rs 947 as against Rs 1042 or Rs 95 less on account of dividend tax. But considering the present interest rate scenario, the return still looks very attractive.For one, MIPs offer assurance for all five years and investors can continue to gain for the full term of the fund even if in the intervening period the interest rate situation turns unfavourable. And MIPs are just as safe as bank deposits and are unlikely to default as they are guaranteed by the development reserve fund.

Open-ended assured income schemes There are just two open-end assured return schemes available - Cancigo and Cangilt. As of now these funds offer 12.5 per cent and 12.25 per cent annualised return respectively. A post-taxreturn of 12.5 per cent looks very attractive. Dividend is distributed half yearly.

Both funds offer encashment at par value after a lock-in period of one year which make them even more tempting. Cancigo is sold and repurchased at par value which rules out the possibility of any capital appreciation.Cancigo carries a minimum investment of Rs 5,000 and investors must rush to the fund before it decides to revise the rates downwards.

Open-ended non-assured return schemes

Open-end income funds have returned an average 12.25 per cent in the past one year. Most of them, launched in 1997, have set a reasonable dividend record. In calendar 1998, open-end income funds paid an average dividend of 12.5 per cent.

Dividend for the year 1998 will be lower to factor in the dividend tax. The advantage of investing in these funds is the instant liquidity and superior service offered by them. However, investors should be cautious in selecting the right fund.

In order to sustain the yield and the dividend ratein the past years, funds may be tempted to compromise a bit on the credit quality. It is imperative for the investor to check-out the portfolio of the funds and match it with the performance to zero-in on a fund. Furthermore, a constant portfolio tracking is also essential to ensure that investment is safe.

The reduction of the coupon rate on the small savings instruments offered by the government has made these funds less attractive. Assured return by UTI still compares favourably with these vehicles and the prevailing interest rate.

And with a diversified portfolio of debt instruments and instant liquidity, open-end income funds look charming and less risky than investing in corporate debt instruments offering similar return.

--Value Research