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Melt-down of Market-linked debentures, Debt mutual funds get fatal blow

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No grandfathering for MLDs, prospectively, tax benefit for debt mutual funds goes away

-Vinod Kothari and Aanchal Kaur Nagpal

finserv@vinodkothari.com

As expected, the Finance Bill, 2023 was passed on March 24, 2023 by Lok Sabha within minutes. With a huge amount of changes including several newly inserted provisions, the so-called amendments were actually a Bill in itself, minus any “notes on clauses” or “memorandum of delegated legislation”, and given the amending document that refers to page numbers and line numbers of the Bill, it is a hard to read document, more so to realise the long term impact it has for the capital markets.

For capital markets, the amended Bill confirms that there will be no grandfathering for market-linked debentures (MLDs), as it specifically provides for a grandfathering only for debt mutual funds. Thus, the future of an approximately Rs. 20 lakh crore non-equity-oriented mutual funds in the country[1], going forward, will be questionable.

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Market-linked debentures: Is it the end of the market for them?

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– Aanchal Kaur Nagpal, Manager | finserv@vinodkothari.com

Tax proposal to tax gains on MLDs as short-term capital gains

The Budget proposes that the capital gains on market linked debentures (MLDs) will be taxed as short term capital gain.

Presently, MLDs are mostly listed, and as listed securities they have 2 advantages:

  • First , there are exempt from withholding tax. This is one of the carve-outs in sec. 193
  • Secondly, the holding period for capital gain purposes is 12 months,  as opposed to 36 months in case of normal capital assets. This comes from sec. 2 (42A) of the Act. Therefore, if a listed security is held for at least 12 months, and transferred or redeemed thereafter, the gain will be taxed as long term capital gain, with a rate as low as 10%.

Market linked debentures is a concept that prevails world-over, with different names such as equity-linked bonds, index-linked bonds, etc. However, in India, the issuance of MLDs was being exploited as a regulatory and tax arbitrage device.

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