In Debt Funds- Choose Growth Over Dividend Option For Tax Efficient Returns

Debt funds are performing good i.e giving superior returns even at a time when interest rates for fixed income instruments have moved southwards. It may be a case that you bet on the dividend option in these funds to cash in on the regular income flow from it. But given the tax landscape it is suggested to choose the growth option as this yields tax efficient returns for the investor.

The underlying portfolio being the same, the hybrid debt funds in dividend option on declaring dividends need to pay a dividend distribution tax which an investor doesn't has to pay from his pockets but at the end of the cycle, the return generated for the investor from such investment is used to pay back the tax. The DDT@ 28.3% applies and for individuals falling in the 10% and 20% income tax slab rate this shall translate into a heavy loss.

On the other hand, growth option of debt mutual funds attracts lower tax rate which is on the tax slab rate of the person if the investor sells the units in the fund within three years time else in the other case it is subject to a long term capital gains tax @ 20% after providing the indexation benefit.

So, at best retirees and pensioners looking for regular cash flow need to consider growth option of debt mutual funds with effective tax rates way lower than FDs and other fixed income options.

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