Capital Gains working for segregated folios

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Segregated folios

If the borrowers of a debt fund are not repaying their respective loans within a given period, then their debt troubled papers are kept aside in a separate account for management. This type of segregation of debt papers is called side pocketing or segregated folios. The original investors of the scheme are paid when the borrowers repay their loan.

Three avatars of the same scheme

1) The original scheme/fund is the scheme that we bought

2) After the separation of segregated folio, the fund under operation with good papers is represented as the current scheme 

3) The separated portfolio consisting of the defaulted papers is called the segregated folio

Some mutual funds follow the above practice of side pocketing and maintain bad debt bonds as segregated folios. Mutual fund houses like Franklin, Aditya Birla and UTI had created segregated folios when the money lent to Vodafone Idea and Zee Education did not return within a specified period. Later when the money was returned to the fund, the investors who were present at the time of split were refunded. This is good news for investors. The difficult part of this exercise is calculating tax on this income. The top question on the minds of investors is, do we need to pay tax for this income? If yes, how should that tax be calculated? Come with me, let's learn about it. Let’s understand this with an example.

Capital gain tax for segregated folio income receipts

To calculate the capital gain tax, the period of possession and the purchase and sale price should be known.

Period of holding of the scheme

To calculate the period of holding of a scheme in these segregated folios, we must take the date of purchase of the original scheme. There is no need for the date of the split.

Bought price of segregated folios

Arriving at the price is a bit harder. We have to consider the ratio of purchase price of the segregated folio and the current scheme is the same as the ratio of original scheme aum and the segregated aum (in other words, the ratio of purchase price of segregated fund and of current fund, and the ratio of nav of segregated scheme and original scheme should be considered the same). Let us take an example where the nav of a fund before segregation is 20, the nav after segregation is 4, and the present fund nav is 16. The price of the original scheme purchased was Rs 10 (the first price we

bought the scheme with). Later the unit purchase price of the segregated fund becomes Rs 2. And the current scheme purchase price is Rs. 8.

Example of tax calculation

The following table shows how the capital gain tax is calculated for the amount received from the segregated folio.

It is a difficult task to understand the complex calculation of tax working on the income received from a segregated folio. But don't worry, you can get the capital gain workings for mutual funds including segregated folios from usual web sites. The following working will help you understand how the tax is calculated for income from segregated folios

Description	Workings	Numbers
Buy Details
Initial Investment		150000
Initial Investment NAV		15
Initial Bought Units	150000/15	10000
Date of Purchase		1/1/2017
Segregated Folio Details
Segregation Date		1/1/2020
Fund Assets before Segregation		5000
Segregated Assets		1000
NAV before Segregation		20
NAV of Segregated Fund	(1000/5000)*20	4
NAV of Current Fund after Segregation	20-4	16
Revised buy cost of Segregated Fund	(1000/5000)*15	3
Revised buy cost of Current Operating Fund	15-3	12
Part Redemption of Segregated Fund
Segregated Fund part Redemption Date		7/17/2020
Fund House receipt in the Segregated Fund		250
% of units redeemed in the Segregated Fund	250/1000	25%
Redeemed units from Segregated Fund	25%*10000	2500
Amount Received by Investor from Segregated Fund	2500*4	10000
Tax Workings
Holding period in years	(7/17/2020 - 1/1/2017)/365	3.542466
Purchase cost for redeemed segregated units	2500*3	7500
CII for 2016 -17		264
CII for 2020-21		301
Revised purchase cost		8,551
Capital gains	10000-8551	1,449
Tax	20%*1449	290