Stocks

AMFI asks funds to avoid bonus stripping plans to check tax evasion

Our Bureau Mumbai | Updated on January 23, 2018 Published on May 22, 2015

Intent of MF body is to avoid scrutiny, take advantage of tax loopholes, say analysts

The industry body of mutual fund houses, the Association of Mutual Funds in India, has advised its members to stop offering the bonus option as part of their schemes. While fund houses helping institutional investors with ‘bonus stripping’ to avoid taxes is now less common than it used to be, instances do still crop up occasionally.

A mutual fund with the bonus option uses the distributable surplus in the scheme to offer bonus units to investors, much like how companies offer bonus shares using their retained earnings. A mutual fund investor who wants to cut down on his tax liability could sell his original units at a (notional) loss and then set this loss off against capital gains earned on other investments. The buying and selling — buying the original units three months before the bonus issue or selling them nine months afterwards — can be timed to meet with tax office requirements.

Vidya Bala, Head of Research at Fundsindia.com, said the practice of bonus stripping was very popular with institutional and high net worth individual investors, especially when there were separate net asset values for retail and institutional investors. Not many fund houses are, however, doing this now, she added.

Dubious scheme info

While bonus stripping takes advantage of a tax loophole, what makes it even more dubious is that nothing on the face of a scheme information document can alert you to these tax-saving benefits.

When discussing bonus stripping, one of the examples analysts point to (but definitely not the only one) is that of fund house JM Financial, whose Arbitrage Advantage Fund — which accounts for about a third of the assets under management by the fund house — announced a bonus issue three months after the option was launched.

JM Financial officials could not be reached for comments. The intent of the circular by AMFI seems to be to avoid future scrutiny into funds taking advantage of the tax loopholes, either by SEBI or the tax office. The circular reads, “While the issuance of bonus units does not violate the letter of any regulation, it is certainly against the spirit of regulation, which may come under the scrutiny by a regulator or by a revenue authority sooner or later.”

It has asked members to “discontinue fresh subscriptions under the bonus option under existing schemes and desist from declaring any bonus units henceforth.”

Published on May 22, 2015
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