Let not taxes mess up your goal

Investors in equity mutual funds and shares must park more to factor in the impact of the long-term capital gains tax

Till recently, planning for long-term goals with equity investments was reasonably easy. After the right set of funds or schemes are chosen, according to the risk appetite, chances were one would accumulate the targeted corpus as a tax free amount.

But that luxury is now gone. After the recent Budget, investors in equity mutual funds and shares have to factor in the impact of the long-term capital gains tax while planning for all financial goals.

With the introduction of a tax and cess on top of it, investors now have to deal with a 10.4 per cent cut on their long-term capital gains (in excess of ₹1 lakh).

The cut in your corpus because of the tax can be substantial. For long-term goals, it is also important to keep in mind the possibility of lower or negative returns in the last year of the time horizon.


How then can you make up for the shortfall and make provision for taxes? For starters, you need to invest a bit more than you normally do, and the earlier you start putting in these additional amounts the better.

Confused? A detailed illustration is given in the table to help you plan for the additional amount required.

Taxing targets

Let us assume that you wish to accumulate ₹1 crore over a 15-year horizon for your child’s higher education abroad or for marriage.

Now, you will need to invest for 14 years, so that at the end of the 15th year, all gains become long-term in nature. Much will also depend on what the accumulated amount earns in the 15th year. Investments in equity funds have generated anywhere from 10 per cent to 23 per cent annual returns through the SIP route over the last 15 years.

We have safely assumed 12 per cent for our illustration for the 14-year accumulation phase.

You will need to invest ₹20,459 every month for 14 years so that you accumulate about ₹89.3 lakh. If the market delivers 12 per cent return in the 15th year, you will have the intended ₹1 crore.

But you cannot lay your hands on the entire amount because you would be liable to pay long term capital gains tax.

Your gains would be about ₹65.6 lakh. After deducting ₹1 lakh exemption, the net gains would be ₹64.6 lakh.

The tax amount payable at a 10.4 per cent rate (10 per cent tax plus cess) would be about ₹6.7 lakh.

Therefore, you will have only ₹93.3 lakh left. Given that the gap between the intended and achieved corpus is large, you will have to invest more so that even after tax you generate ₹1 crore.

More investment required

In the earlier example, assuming a 12 per cent annual return consistently, you will need to invest an additional ₹1,375 for 14 years, so that the post-tax corpus remains ₹1 crore.

So, in total, you will need to invest ₹21,834 every month for 14 years so that you receive ₹1 crore in the 15th year. As mentioned earlier, the return in the 15th year also becomes very important. In the above example, if there are no returns in the 15th year, if the market remains flat, you will have to invest more for the corpus shortfall as well as capital gains. In effect, you will need to invest ₹3,740 additionally every month for 14 years, so that you get an assured sum of ₹1 crore, after tax, at the end of the 15th year.

Being prepared

Given these scenarios, reviewing the schemes or shares that you invest in becomes critical. You must take stock of your portfolio once every one or two years and weed out under-performers if they consistently deliver lower-than-expected returns.

Also, you must keep investing additional sums according to your risk appetite and follow a suitable asset allocation pattern so that you are not caught off guard when your goals are just round the corner.

And as and when you get a salary hike, the additional amount must go into investments for such long-term goals.

In the first example, if you delay investing ₹1,375 every month for four years, you will need to park ₹2,410 for 10 years instead to bridge the shortfall caused by LTCG!

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