Gifting Mutual Funds to Your Child? Here Are the New Rules Every Parent Must Understand

Gifting mutual funds to children has become an effective way for Indian parents to build long-term wealth for their kids. However, recent changes in the rules have made the process more complex. From the requirement of demat accounts to new tax regulations, parents need to understand the implications of gifting mutual fund units to ensure a smooth transfer and avoid unexpected tax liabilities. 

Why Gifting Mutual Funds Is Not as Simple as It Seems 

Many parents assume that gifting mutual funds is as straightforward as giving jewellery or cash. However, mutual fund units are classified as capital assets under the Income Tax Act, which means they are subject to special transfer rules and taxes. While gifting is an exception to the usual capital gains tax rules, it is not completely exempt from taxation when the child sells the units. 

1. Updated Limits on Gifting Mutual Fund Units

The key change under the new guidelines is the restriction on gifting mutual fund units in Statement of Account (SoA) mode. Now, gifting mutual funds is only allowed if the units are in demat mode. Transfers in SoA mode are only allowed in certain exceptional cases, such as when a minor turns 18 and adds a parent or sibling as a joint holder.  

To gift mutual fund units, parents must first convert their units to demat mode. After conversion, the transfer is treated as a standard off-market transfer with a nominal fee of ₹25 or 0.03% of the transfer value, whichever is higher, plus GST and stamp duty. 

2. Tax Impact on Parents When Gifting Units

There is no immediate capital gains tax when parents gift mutual funds to their children, as gifts are specifically excluded from taxable transfers under Section 47(iii) of the Income Tax Act. Therefore, parents can gift without worrying about an immediate tax burden. 

3. Tax Treatment for Children Receiving Mutual Fund Gifts 

When a child receives mutual fund units from their parents, the gift is tax-free. Since parents are considered “relatives” under tax law, the recipient child is not required to pay any gift tax. 

4. How Capital Gains Are Taxed When Children Sell Gifted Units

Although gifting mutual funds is tax-free, the child will be subject to capital gains tax when they sell the units. The capital gains tax will be calculated based on the parent’s original purchase cost and holding period, meaning the child inherits the parent’s cost and timeline of investment. 

Read More: Targeting ₹4 Crore with SIPs: What Monthly Investment Do You Need? 

5. Income Clubbing Rules for Gifts Made to Minor Children

A significant trap for parents is the clubbing rule. Any income generated from mutual fund units gifted to a minor child is added to the income of the parent with the higher income. Only a small exemption of ₹1,500 per year per minor child is allowed. This clubbing rule continues until the child turns 18, at which point the income is no longer clubbed with the parent’s income. 

6. Step by Step Process to Gift Mutual Fund Units Legally

To gift mutual funds correctly, follow these steps: Step 1: Convert the units to demat mode using a Conversion Request Form (CRF) or the demat portal. Step 2: Execute a simple gift deed, stating the relationship and details of the units. Step 3: Transfer the units using the Delivery Instruction Slip (DIS) or online off-market transfer to the child's demat account. Step 4: Pay the transfer fee and stamp duty, which is a small cost involved in the process. 

7. What Happens to Mutual Fund Units After the Investor’s Death

Transmission of mutual fund units after the death of the holder is allowed without the need for demat accounts. Required documents include a death certificate, KYC details, and an indemnity bond if needed. 

8. Purpose Behind the New Mutual Fund Gifting Restrictions

Regulatory authorities like SEBI and AMFI have implemented these rules to prevent money laundering, tax evasion, and fraudulent transfers. Since mutual fund units are easily transferable, moving them freely in SoA mode could lead to misuse. 

Conclusion 

The gifting of mutual funds to children has become more regulated, with new rules around demat accounts, tax implications, and clubbing rules. Parents should be mindful of these changes to ensure that their gifts are handled properly and that they are aware of the potential tax implications when their children sell the units in the future. 

Disclaimer: This blog has been written exclusively for educational purposes. The securities or companies mentioned are only examples and not recommendations. This does not constitute a personal recommendation or investment advice. It does not aim to influence any individual or entity to make investment decisions. Recipients should conduct their own research and assessments to form an independent opinion about investment decisions. 

Mutual Fund investments are subject to market risks, read all scheme-related documents carefully.