Funds rush to retain corporate investors in debt plans

Mutual fund houses, faced with the reality that their debt schemes may not be attractive for corporate investors following the 750 basis points rise in withholding tax, are pulling out all stops to stem an exodus.

Fund managers, marketing teams and even top executives are meeting their corporate clients, including banks, to make them understand the implications of the tax, and what it would mean for their investments in such schemes.

The Union Budget raised the withholding tax of dividend from debt schemes from the current 12.5 per cent to 20 per cent for corporate investors to prevent them arbitraging between mutual fund investments and interest income on bonds where they pay tax at 35 per cent.

Prakash Dalal, chief marketing officer at Kotak Mutual Fund said, "We are talking to our corporate clients."

Fund houses are stressing on the fact that even with the increase in the withholding tax, corporates still stand to make a substantial margin compared to direct investments in bonds.

Incidentally, mutual fund houses have also realised that instead of selling their story on tax breaks alone, they will now have to focus on fund performance and products suited to luring corporates to stay invested for the long term.

With around 70 per cent ready-made subscriptions from corporates and institutional clients, fund houses have not been bothered making much inroads into the retail segment.

According to the sales head of a fund house, "we expect big corporates to use their in-house expertise, and invest directly in the markets rather than come to us."

Direct investments in equity will no longer attract long capital gains tax while the short term capital gains tax has been reduced to a flat 10 per cent, according to the Budget announcement. This relief has not been provided for investments in mutual fund units.

Banks and corporates use cash and liquid schemes of mutual funds as a temporary parking space for short term cash surpluses. The higher withholding tax will impact their returns from such schemes, especially in the dividend schemes.

Most of the corporates are not expected to shift to growth schemes, since this would not really serve their purpose, which is essentially short term in nature.