This articles discusses some benefits and drawbacks of storing your mutual funds in demat mode with one killer feature that makes transmission possible.

This article is a part of our detailed article series on the concept of mutual fund taxation in India. Ensure you have read the other parts here: Show/Hide

📚 Table of Contents

☰

• What is the biggest benefit of holding mutual fund units in demat form?
• Can you hold your mutual fund units in demat form at all?
• What are the pros and cons of holding mutual funds in demat account?
• One worked out example
• Can you dematerialise your existing SOA MF units?

What is the biggest benefit of holding mutual fund units in demat form?

Source: https://nsdl.co.in/faqs/faq.php

You can transfer mutual fund units (and stocks or bonds) in your demat account to a family member, or anyone else for that matter, anytime using the off-market-transfer or online transfer mechanisms offered by CDSL or NSDL.

Can you hold your mutual fund units in demat form at all?

There is no benefit of holding an electronic item in a demat account

A lot of investors have been told a variation of the above statement since when they buy mutual funds, they no longer have physical unit certificates. The Mutual Fund Transfer Agencies (RTAs) like CAMS and KFintech maintain detailed statements for every mutual fund investor and the units they hold. This format is called Statement-of-Account (SOA) mode of holding mutual funds.

In contrast, just like shares, you now have the option of holding mutual funds in your demat account which will be maintained by NSDL or CDSL. You can use multiple platforms to buy and sell these mutual funds in demat form.

What are the pros and cons of holding mutual funds in demat account?

The main pros are a single statement view of stocks and MFs called CAS along with transactions and tracking via the same platform that you use for stocks.

The cons are being required to trade only in integral units of MFs and platform lock-in: you will need to transfer the units to another demat account to transact with another platform.

However, all of these pros and cons become inconsequential if you consider the transmission facility.

Normally, mutual funds in SOA form, i.e. not in a demat account, can be transferred only by:

• selling which leads to capital gains tax
• dying and then the nominee / legal heirs get the units after producing death certificate etc.

But, we know that for all assets,

Transmission to family members is tax free if it is a gift

We will explain below how to make use of this feature to save taxes while selling or transferring mutual funds. By the way, you can transfer or donate shares in the same way.

One worked out example

You are the parent of a 18 year old who needs money for college education in 6 months. As a responsible parent you have most of the money for college admission already in debt mutual funds. However, if you sell those units in your name, you will be taxed at 30% or more if you are in highest tax slabs. However, if you transfer the units to your child’s demat account as a gift:

• the child does not pay taxes on transmission
• the child, being a major with their own PAN and tax filing status, does not have income clubbing with the parent
• the child’s acquisition date and cost of the units is the same as that of the parent but the child is likely at a lower or zero tax bracket
• the child sells the units to pay the college fees and pays a lot less taxes than the parent: How to calculate taxes from capital gains and combine them with your other income

It is best to create a gift deed on stamp paper and the parent who is making the gift should sign it

To understand the taxation better, we need to know that capital gains tax from the sale of mutual funds or stocks is taxed as per the original purchase date and purchase price. If the items being gifted are shares or mutual funds, or anything that has a purchase date and price, include those details in the deed for making it easy to calculate capital gains in the future.

For example, say the parent purchases ₹5L in mutual funds when the child is ten years old at ₹100/unit, gifts them to the child when they are 18+ when the fund NAV is at ₹200/unit, and the child sells them later at ₹250/unit. The tax will be calculated with the purchase NAV of ₹100 and the purchase date, for determining long term or short term holding, as of the original date more than eight years ago.

The only way the above transaction will save tax is because the capital gain from this sale if the capital gain can be offset against the basic exemption limit. To explain this, currently below ₹2.5L/year income, there is no tax due. Therefore, if the capital gain amount is below this basic limit, then there is no tax to be paid by the child.

Read more here:

• How is tax calculated on selling shares/MFs?
• How to calculate taxes from capital gains and combine them with your other income

There is another use case with retired seniors and their adult children which we will cover in a future article.

Can you dematerialise your existing SOA MF units?

Now that you know of this tax saving feature, you can follow this process to dematerialise MF units from SOA form:.

• Step 1: Stop existing SIPs in the folios
• Step 2: Fill the Demat Request Forms and send along with KYC documents to the DP
• Step 3: DP will liaise with the RTA (CAMS or KFintech) and the process will be over in a month or so. There will be some nominal charges.

There are extensive FAQs on this process here:

• NSDL site: https://nsdl.co.in/faqs/faq.php
• NSE site: https://nsdl.co.in/nsdlnews/hold-mutual-fund-units.php

You can also convert demat MF units into SOA form in case you wish to do so for any reason.