WHY INCOME PLUS ARBITRAGE FUNDS?
Since the revised tax rules for mutual funds were announced in July 2024, there have been several new products that have come up. The Union Budget had made it clear that; for debt funds with more than 65% in debt instruments, there would be no distinction between short term and long term capital gains. They will be taxed at the incremental rate of tax. However, there were two gaps for investors to exploit.
Arbitrage funds gave debt-like returns, but were still treated as equity funds for tax purposes. Secondly, if the arbitrage fund was structured as a Fund of Fund (FOF), then the taxation would either be like an equity fund or a balance fund; but not as a debt fund. It was this gap that gave rise to Income Plus Arbitrage funds. What exactly do these funds do?
WHAT DO INCOME PLUS ARBITRAGE FUNDS DO?
While Income Plus Arbitrage Funds are arbitrage funds with an added layer of debt, they have become popular after the July 2024 Union Budget. These Income Plus Arbitrage Funds are structured as Fund of Funds (FOFs), which buy arbitrage funds and debt funds, typically in the ratio of 65:35 or higher to ensure they are classified as an equity fund for taxation.
The debt component can be tweaked based on whether to cater to conservative investors or aggressive investors. Ideally, the debt exposure should not cross 65%, since there would be no distinction between long term and short term capital gains. Today, most Income Plus Arbitrage funds in India are either newly launched or they are former debt funds.
HOW WILL INCOME PLUS ARBITRAGE FUNDS BE TAXED?
The taxation of income plus arbitrage funds depends on the equity / debt composition. Here is a quick dekko.
The Income Plus Arbitrage is tax efficient only in the second and third case above; not in the first case.
HOW HAVE INCOME PLUS ARBITRAGE FUNDS PERFORMED?
The table below captures the performance of income plus arbitrage funds across 3 time frames. All funds considered here are Direct Plans.
Scheme
Name |
Return (%)
1-Year |
Return (%)
3-Years |
Return (%)
5-Years |
Daily AUM
(₹ in Crore) |
Aditya Birla Sun Life Debt Plus Arbitrage FOF | 9.65 | 7.85 | 6.79 | 375.88 |
Axis Income Plus Arbitrage Active FOF | 10.15 | 8.29 | 7.19 | 292.62 |
Bandhan Income Plus Arbitrage FOF | 9.33 | 7.65 | 6.40 | 411.52 |
DSP Income Plus Arbitrage FOF | 10.30 | 11.17 | 9.96 | 573.33 |
HDFC Income Plus Arbitrage Active FOF | 5.26 | 15.86 | 19.90 | 454.70 |
HSBC Income Plus Arbitrage Active FOF | 8.53 | 8.55 | 8.28 | 336.20 |
ICICI Pru Income Plus Arbitrage Active FOF | 11.60 | 12.71 | 13.94 | 485.37 |
Kotak Income Plus Arbitrage FOF | 9.96 | N.A. | N.A. | 1,769.61 |
Data Source: AMFI
We have not ranked funds here since most of these funds have been converted into Income Plus Arbitrage FOFs and the above performance may reflect the old structure. We will get greater clarity in the next 2-3 years. The good news is that the AUM of Income Plus Arbitrage Funds is picking up and has touched ₹4,700 Crore.
PROS AND CONS FOR INVESTORS IN INCOME PLUS ARBITRAGE FUNDS
There are several positives in this fund for conservative investors. It gives them debt-fund like returns, but with equity fund tax efficiency. That makes it superior to a pure debt fund, since the tax impact would be substantially lower in an Income Plus Arbitrage Fund. Does it replace debt fund? Maturity profiles would be different, since pure arbitrage fund would be more like a liquid fund.
For comparison, the Income Plus Arbitrage Fund would reflect dynamic debt fund where the fund manager allocates between long duration and short duration debt. The most important fact is that arbitrage funds, across the board, have been consistent in terms of returns, and that is likely to make returns on these Income Plus Arbitrage Fund more stable and predictable!
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