In the last two terms of the Modi-led-NDA government copious structural reforms, viz. Make In India, Production-Linked Incentive (PLI) scheme, Start-up India, National Single Window System (a digital platform to help businesses apply for approvals from central and state governments), Skill India, Digital India, development of India’s core infrastructure, financial inclusion for all, Housing For All (also known as the Pradhan Mantri Awas Yojana), RERA, renewal energy, tax reforms such as GST, corporate tax cuts, the Insolvency and Bankruptcy Code, creation of bad banks (as part of a wider strategy to clean up the balance sheets of banks), merger of PSU banks, and many social others have been rolled out and implemented.

In short, the government laid the path to economic reforms and progress.

Today, the World Bank sees as India fastest-growing economy of the seven largest EMDEs. Similarly, the International Monetary Fund (IMF) observes India as a “bright spot”, and rightly so, because of several reforms of the government and prudent monetary policy actions of the RBI.

The Equity AUM of Indian mutual funds, as a consequence, has also reported a phenomenal rise with very encouraging participation from individual investors, both retail and HNIs.

Interestingly, individual investors (retail and High Net worth Individuals) today, hold a relatively higher share of the industry’s assets (59.2% as of November 2023). India’s mutual fund industry AUM-to-GDP ratio — which represents the penetration of mutual funds in the economy — is currently around 15% compared to 7-8% a decade ago. Although this ratio is low compared to the global average of around 75%, a remarkable increase in AUM is quite evident.

For deeper penetration of the mutual funds, i.e. for a bigger pie of the households’ financial assets, along with investor education, I believe, the government should also consider making mutual fund investments more tax efficient.

Many of the long-standing expectations of the Indian mutual fund industry haven’t been honoured by the government so far.  We expect the budget to address the difference in tax treatment between equity mutual funds and Unit linked Insurance Plan (ULIP).

At present, when it comes to capital gains of ULIPs, if the annual premium is less than Rs 2.5 lakh, the returns are not taxed. It is important to bring both ULIP and equity mutual funds on par as regards taxation (since ULIPs are essentially investment products providing some risk cover).

Furthermore, the government should revise the definition of equity-oriented mutual fund schemes by including equity Fund of Fund (FoF) schemes. For instance, even an equity FoF is regarded as debt-oriented from a tax standpoint. An equity FoF should be on par with equity-oriented mutual funds for taxation.

Similarly, the Intra-scheme switches, i.e. switching of investment within the same scheme of a mutual fund; Switches should be exempt from payment of capital gains tax as no gains are realised in such a case.

Therefore, we suggest that amendments must be made so that switching of units from (a) Regular Plan to Direct Plan or vice-versa; and (b) Growth Option to Income Distribution cum Capital Withdrawal (IDCW) Option or vice-versa, within the same scheme of a mutual fund are not regarded as ‘transfer’ and hence, shall not be charged to capital gains.

Moreover, we propose that when an investor moves or switches his investment from one equity scheme to another equity scheme within the fund house, the government should consider exempting the capital gains (since it’s a case of simple allocation of the funds).

Additionally, since Indian bonds would now be part of the JPMorgan Global Bond Index and Bloomberg indices from mid-2024 onwards (expected to bring billions of dollars of foreign money into the Indian debt market), we also suggest introducing Debt Linked Saving Scheme (DLSS) on the lines of Equity Linked Saving Scheme (ELSS).

This would channelise the long-term savings of retail investors into high-quality debt instruments with tax benefits, helping in deepening the Indian Bond Market. DLSS shall enable small investors to participate in bond markets at low costs and lower risk compared to equity markets.

We also propose allowing mutual funds to channelise retirement savings with the government providing tax incentives. A Mutual Fund Linked Retirement Scheme (MFLRS) with the same tax concessions available to the National Pension System (NPS) be permitted.

A majority of NPS subscribers are from the government and organised sector. The MFLRS could target individuals who are not subscribers to NPS, especially those from the unorganised sector, providing them with an option to save for a vital long-term goal such as retirement coupled with tax benefits.

Although we understand that this is an interim budget — a vote of account — before the Lok Sabha elections 2024, but many of these suggestions are structural reforms for greater financial inclusion with mutual funds. If these see the light of the day in time to come, it would be a win-win for investors and the industry. (The author is MD & CEO, Quantum AMC)