This Article is From Oct 07, 2017

Fixed Deposits (FDs) Vs Mutual Funds: Understanding Income Tax Implications

The interest received on bank fixed deposits is added to you income and taxed accordingly.

Fixed Deposits (FDs) Vs Mutual Funds: Understanding Income Tax Implications

Gains from mutual fund investments are taxed according to their period of holding.


  • Dividend income from equity mutual funds is tax-free
  • Interest income earned from bank fixed deposits is fully taxable
  • If you get interest more than Rs 10,000 a year, banks deduct TDS on FDs
Despite falling interest rates bank fixed deposits (FDs) remain one of the most popular savings instruments due to guaranteed interest rate. Premature closure of bank FDs is also allowed on levy of a penalty. The asset base of the domestic mutual fund industry has been hitting new highs, driven by surge in investment in equity mutual funds. Investments in mutual funds through SIPs have also surged. Indian Mutual Funds have currently about 1.59 crore SIP accounts through which investors regularly invest in Indian Mutual Fund schemes, according to industry body AMFI. Systematic Investment Plan or SIP as it is commonly known, is an investment plan offered by mutual funds wherein one could invest a fixed amount in a mutual fund scheme at fixed intervals.

Income Tax Implications of Investment In Mutual Funds

1) For tax purposes, a mutual fund scheme that invests 65 per cent or more of its portfolio in equities or equity-related instruments, is considered equity funds. If a balanced fund invests minimum 65 per cent in equities, it is considered an equity fund for tax purpose.

2) Any gain for equity mutual fund units (SIP or lumpsum) held for more than 12 months is considered as a long-term capital gain. There is no tax on long-term capital gains from equity funds. For periods less than 12 months, short-term capital gains tax is applicable at 15 per cent on the gains from equity funds.

3) Many investors opt for dividend option while investing in equity mutual funds. Dividend income from equity mutual funds is tax-free, irrespective of when you receive it.

4) Investments in debt funds (which include liquid funds, income funds, gilt funds etc) are considered long term only if they are held for more than three years. Currently, the long-term capital gain on debt funds is taxed at the rate of 20 per cent. However, investors get the benefit of indexation on their original debt fund investment. This means that the original investment is adjusted for the price of inflation and taxed accordingly. Since the original cost of investment goes up after factoring in inflation, long term capital gains tax comes to negligible levels.

5) But if debt mutual fund investments are redeemed or sold before three years, the short-term gains are taxed according to your tax slab. Income from debt funds also come in the form of dividends. Any dividend declared by a debt mutual fund is exempt from tax in the hands of investors. However, mutual fund houses pay dividend distribution tax @ rate of 28.84 per cent (including surcharge and cess) before handing out the dividends to investors.

Income Tax Implications of Investment In Bank Fixed Deposits

1) Interest income earned from bank fixed deposits is fully taxable, unlike savings bank account where one gets income tax exemption on interest earned up to Rs 10,000 a year.

2) The interest received on fixed deposits is added along with other income and you have to pay tax on that income at an interest rate applicable to you.

3) In case of bank fixed deposits, banks deduct tax at source (TDS) at the rate of 10 per cent if the interest income for the year is more than Rs 10,000. TDS is calculated by checking the combined interest income of all branches of a particular bank.

4) Bank fixed deposit investors who are not in the tax bracket are advised to furnish Form 15G/15H to avoid getting the TDS deducted by the bank. If one fails to do so, the person will need to claim the tax refund by filing his or her income tax return (ITR).

5) Banks issue a TDS credit certificate for deducting tax. The depositor can claim this as refund, if applicable, while filing his or her tax return.