How balanced funds can solve tax problems

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The tax rules on debt funds have been changed. The benefits of long term capital gains and indexation have been withdrawn from these funds. So have the debt funds become useless? May be not. There are many such funds in which you can avoid the effect of new tax rules. One such fund is Balanced Hybrid Fund.

As the name suggests, a Balanced Hybrid Fund maintains a balance between debt and equity investments. In the year 2017, SEBI created a new subcategory Balanced Hybrid Fund within Hybrid Funds. According to SEBI regulation, between 40 to 60% investment in a Balanced Hybrid Fund can be invested in equity or equity-related instruments and the rest can be invested in debt instruments. They are open-ended funds that invest in both equity and debt instruments. Such kinds of investments include shares, bonds, money market instruments etc.

Returns & risk

Objective of these funds is to create a balance between returns and risk hence they invest in both equity and debt instruments. They are more stable amidst market volatility than pure equity funds.

The manager of hybrid fund is always very careful that equity-debt ratio of the fund is in line with SEBI’s definition. Fund managers try to get a high return with equities and with debt components they try to manage the risk. This way with balanced allocation, you will get the benefit of portfolio diversification and you won’t have to invest in the different asset classes.

It is believed that in medium term, like five years balanced hybrid fund can get you good returns. Keep in mind that balanced hybrid fund is not completely risk-free. Since it invests in equity, it has some element of market risk. However, they are less risky than a pure equity fund.

Tax rules

Let us see how balanced hybrid fund is taxed. In these funds, equity component is more than 40% but less than 60%. Hence these are known as non-equity oriented funds. If invested for less than three years, then it is known as short term capital gains and you are taxed as per income tax slab. However, for more than three-year period, there is long term capital gains tax of 20%. You also get an indexation benefit.

No guranteed return

Balanced hybrid fund have given good return. However, you should keep in mind that there is no guarantee of return. As per Value Research data, in last three,  five and 10 years. Balanced hybrid fund has given 29%, 12% and 14% return, respectively.

Now the question is, who should invest in balanced hybrid mutual fund.

This is apt for investors who are looking for balance between wealth creation and low to moderate level of risk. Specifically if you are looking to buy a car, house or need money for a child’s higher education in five to seven years. Then you can achieve your goal by investing in this fund.

Active investor

Similarly, if you are looking to take lower risk and you are not active in managing your portfolio, in that case also this fund is right for you.

Debt mutual fund investors need to understand that funds purchased after April 1 will attract short-term capital gains tax, irrespective of the investment horizon. Hence financial advisors and distributors might promote such hybrid funds more aggressively in which there is a debt component but are considered as equity funds from a tax point of view. Balanced hybrids are such kind funds. In order to get good benefits from these funds, investors should invest for the long term. If investors are still confused regarding which fund is better from the tax point of view then he can consult a financial advisor.