When the government overhauled the capital gains tax framework in the Union Budget 2024, the changes were positioned as a step towards simplification and higher revenue mobilisation. But beneath the headline numbers, the revised long-term capital gains (LTCG) rules on equity mutual funds have quietly made investing more expensive and complicated for a large section of salaried taxpayers who rely on mutual funds for long-term wealth creation.
Tax experts say the current structure, especially the relatively low exemption limit and the removal of indexation benefits, has tilted the balance against disciplined investors, particularly those using systematic investment plans (SIPs).
According to Dinkar Sharma, Company Secretary and Partner at Jotwani Associates, the intent behind the July 23, 2024 Budget amendments may have been to broaden the tax base, but their real-world impact has been uneven. He points out that the burden has fallen disproportionately on salaried individuals who invest steadily through mutual funds as part of their long-term financial planning.
How the current LTCG rule works
Under the post-Budget 2024 regime, long-term capital gains from equity mutual funds—units held for more than 12 months—are taxed at 12.5% if total gains exceed Rs 1.25 lakh in a financial year. While the exemption limit was raised from Rs 1 lakh to Rs 1.25 lakh, the tax rate itself was increased from 10% to 12.5%, and indexation benefits were completely removed.
A critical but often overlooked detail is that this Rs 1.25 lakh exemption is not applied fund-wise. Instead, it is aggregated across all equity investments. This aggregation has significant consequences for salaried investors who typically spread their money across multiple mutual fund schemes for diversification.
Sharma explains that in a rising market, even relatively modest gains across different funds can quickly add up. Once the combined gains cross the Rs 1.25 lakh threshold, every additional rupee is fully taxable, regardless of how long the investments were held or how gradually they were built.
Why SIP investors feel the pinch more
The impact is particularly sharp for SIP investors, who form the backbone of India’s mutual fund ecosystem. SIPs involve small, regular investments over several years, each instalment treated as a separate purchase with its own acquisition cost and holding period.
When units are redeemed, investors must calculate gains transaction by transaction. For long-term SIP investors, early redemptions—often made for goals like a house purchase, children’s education, or retirement—consume the exemption limit quickly. By the time a larger withdrawal is made, the entire gain above the threshold becomes taxable.
This, Sharma notes, creates a form of “tax friction” that penalises disciplined behaviour. Investors who have stayed invested consistently over time find that cumulative gains push them into a higher tax outgo, even if their real returns are modest when adjusted for inflation.
Compliance complexity adds to the stress
For salaried taxpayers accustomed to relatively simple tax compliance, mutual fund taxation has become another layer of complexity. Unlike salary income, there is no tax deducted at source (TDS) on equity mutual fund redemptions for retail investors.
As a result, individuals must track each redemption, compute gains accurately, and report them correctly in their income tax returns. Any miscalculation can invite notices, interest, or penalties. What was once seen as a straightforward, low-maintenance investment option now demands detailed record-keeping and tax planning.
The indexation gap and real returns
The removal of indexation has further aggravated concerns. Indexation allowed investors to adjust the purchase price of an asset for inflation, ensuring that tax was levied on real gains rather than nominal ones.
Without indexation, the taxable gain often overstates the actual economic benefit, especially for long-term investors. In periods of high inflation, a significant portion of what is taxed as “gain” may simply reflect the erosion of purchasing power over time.
Sharma argues that while Section 112A—the provision governing LTCG on equity—may be legally sound, it does not align well with how salaried individuals actually save and invest. For this group, post-tax returns matter more than headline returns, and a system that ignores inflation and the cumulative nature of SIP investing fails to meet their needs.
Calls for a rethink
Given these issues, tax experts are increasingly calling on the government to revisit the capital gains changes introduced in Budget 2024. Several reform options are being discussed within the tax community.
One immediate measure could be raising the LTCG exemption limit further to reflect the growing size of household investments in mutual funds. Reintroducing indexation benefits for debt mutual funds is another suggestion, which would help align taxation with real, inflation-adjusted returns.
Some experts also advocate a more nuanced approach, such as tiered exemptions or lower tax rates for longer holding periods. Such measures, they argue, would better reward patience and long-term investing while still allowing the government to collect revenue.
The bigger picture
As it stands, the revised LTCG framework has subtly shifted the tax burden onto ordinary mutual fund investors, particularly salaried individuals who invest methodically over time. Low exemption limits, aggregated taxation across funds, procedural complexity, and the absence of inflation adjustment are not mere technical details—they directly affect after-tax returns and investment behaviour.
If policymakers want to genuinely encourage long-term savings and responsible investing, experts say these concerns cannot be ignored. Without corrective steps, the current system risks discouraging the very financial discipline it aims to promote.