The Finance Act, 2023 introduced section 50AA to tax Market Linked Debentures and certain Specified Mutual Funds as short-term capital gains. This impacted funds with less than 35% equity investment, including ETFs and Gold Funds. The ambiguity extended to Fund-of-Funds (FoFs). To address concerns and clarify, the amendment redefines “Specified Mutual Fund” under section 50AA. It stipulates that such funds must invest at least 65% in debt and money market instruments, or in units of other qualifying funds. The revision aims to provide clarity on investment proportions and applies from April 2026, affecting assessment year 2026-27 onwards.
Budget 2024: Amendment to definition of Specified Mutual Fund under section 50AA
The Finance Act, 2023 had introduced special taxation regime of deemed short term capital gains taxation for Market Linked Debentures and Specified Mutual Funds by way of introduction of section 50AA of the Act. The gains in such cases were to be taxed as Short-term Capital Gain irrespective of period of holding. The requirement of investment of not more than 35% in equity shares has also impacted other funds which are not debt-oriented funds, but invest below 35% in equity shares. Such funds which are adversely impacted include Exchange Traded Funds (ETFs), Gold Mutual Funds and Gold ETFs. In the case of Fund-of-Funds (FoFs) as well, wherein the underlying fund further invests in other instruments, there is ambiguity as to whether they will be considered Specified Mutual Funds as defined in section 50AA. Thus, a need to re-define the term “Specified Mutual Funds” for the purposes of Section 50AA, to provide clarity regarding the proportion of investment being made in terms of debt and money market instruments, and also to clarify the investment requirements in the case of Fund-of-Funds (FoFs) had arisen. Representations from multiple stakeholders were received seeking clarity and revision. It is thus proposed to amend the definition of “Specified Mutual Fund” under clause (ii) of Explanation of section 50AA to provide that a specified mutual fund shall mean a mutual fund:
(a) a Mutual Fund by whatever name called, which invests more than sixty five per cent of its total proceeds in debt and money market instruments; or
(b) a fund which invests sixty five per cent or more of its total proceeds in units of a fund referred to in sub-clause (a).
The above amendment under clause (ii) of Explanation of section 50AA is proposed to be brought into effect from 1st day of April, 2026 and shall be applicable from AY 2026-27 onwards.
[Clause 21]
Extract of Clause 21 of Finance Bill 2024
Clause 21 of the Bill seeks to amend section 50AA of the Income-tax Act relating to Special provision for computation of capital gains in case of Market Linked Debenture.
It is proposed to substitute the opening portion of the said section so as to provide that notwithstanding anything contained in clause (42A) of section 2 or section 48, where the capital asset––
(a) is a unit of a Specified Mutual Fund acquired on or after the 1st day of April, 2023 or a Market Linked Debenture; or
(b) is an unlisted bond or an unlisted debenture which is transferred or redeemed or matures on or after the 23rd day of July, 2024;
the full value of consideration received or accruing as a result of the transfer or redemption or maturity of such debenture or unit or bond as reduced by—
(i) the cost of acquisition of the debenture or unit or bond; and
(ii) the expenditure incurred wholly and exclusively in connection with such transfer or redemption or maturity,
shall be deemed to be the capital gains arising from the transfer of a short-term capital asset. This amendment will take effect retrospectively from 23rd July, 2024.
Clause (ii) of the Explanation to the said section provides that for the purposes of the section, “Specified Mutual Fund” means a Mutual Fund by whatever name called, where not more than thirty-five per cent. of its total proceeds is invested in the equity shares of domestic companies, provided that the percentage of equity shareholding held in respect of the Specified Mutual Fund shall be computed with reference to the annual average of the daily closing figures.
It is further proposed to substitute the clause (ii) of the Explanation and its proviso to provide that “Specified Mutual Fund” means a Mutual Fund by whatever name called, which invests more than sixty-five per cent. of its total proceeds in debt and money market instruments, or a fund which invests sixty-five per cent. or more of its total proceeds in units of a fund referred to in sub-clause (a), provided that the percentage of investment in debt and money market instruments or in units of a fund, as the case may be, in respect of the Specified Mutual Fund, shall be computed with reference to the annual average of the daily closing figures, and provided further that for the purposes of this clause, “debt and money market instruments” shall include any securities, by whatever name called, classified or regulated as debt and money market instruments by the Securities and Exchange Board of India.
This amendment will take effect from 1st April, 2026 and will, accordingly, apply in relation to the assessment year 2026-2027 and subsequent years.
Extract of Proposed Amendment to section 50AA of Income Tax Act, 1961 vide Finance Bill, 2024
In section 50AA of the Income-tax Act,-
(a) for the portion beginning with the words “Notwithstanding anything contained in” and ending with the words “short-term capital asset:”, the following shall be substituted and shall be deemed to have been substituted with effect from the 23rd day of July, 2024, namely:––
“Notwithstanding anything contained in clause (42A) of section 2 or section 48, where the capital asset―
(a) is a unit of a Specified Mutual Fund acquired on or after the 1st day of April, 2023 or a Market Linked Debenture; or
(b) is an unlisted bond or an unlisted debenture which is transferred or redeemed or matures on or after the 23rd day of July, 2024,
the full value of consideration received or accruing as a result of the transfer or redemption or maturity of such debenture or unit or bond as reduced by—
(i) the cost of acquisition of the debenture or unit or bond; and
(ii) the expenditure incurred wholly and exclusively in connection with such transfer or redemption or maturity,
shall be deemed to be the capital gains arising from the transfer of a short-term capital asset:”;
(b) in the Explanation, for clause (ii), the following clause shall be substituted with effect from the 1st day of April, 2026, namely:––
‘(ii) “Specified Mutual Fund” means,––
(a) a Mutual Fund by whatever name called, which invests more than sixty-five per cent. of its total proceeds in debt and money market instruments; or
(b) a fund which invests sixty-five per cent. or more of its total proceeds in units of a fund referred to in sub-clause (a):
Provided that the percentage of investment in debt and money market instruments or in units of a fund, as the case may be, in respect of the Specified Mutual Fund, shall be computed with reference to the annual average of the daily closing figures:
Provided further that for the purposes of this clause, “debt and money market instruments” shall include any securities, by whatever name called, classified or regulated as debt and money market instruments by the Securities and Exchange Board of India.’.
