Indexation benefits - Explained !

Indexation benefits are a way to reduce the amount of tax you pay on your long-term investments by accounting for inflation.

Simple Explanation:

• When you invest in something (like debt mutual funds), and sell it later for a higher price, the difference is called capital gains.

• But sometimes, the value of money itself drops due to inflation — things get more expensive over time.

• Indexation adjusts your original investment cost to reflect this inflation. So your "adjusted purchase cost" becomes higher, and your taxable profit becomes lower.

Example:

• Suppose you invest ₹1 lakh in a debt fund.

• After 3 years, you sell it for ₹1.3 lakh → gain of ₹30,000.

• If there's 10% inflation in those 3 years, indexation might adjust your cost to ₹1.1 lakh.

• Now, your taxable gain = ₹1.3 lakh - ₹1.1 lakh = ₹20,000 (not ₹30,000).

• You pay tax only on ₹20,000, not on the full ₹30,000.

Why it is important:

• Indexation lowers your capital gains, so you pay less tax.

• It was especially beneficial in debt mutual funds, real estate, and gold investments held for the long term.

• Since 2023, indexation benefits are not available for new investments in debt mutual funds.