Living in India, most of us earn and invest within our geographical bounds. The Indian markets are robust and have multiple investment options available for every investor. But every now and then, uncertainties and upheavals, be it economic or geopolitical, can make other avenues more attractive for investment.
Even though uncertainty is part and parcel of every market you enter, the recent introduction of long term capital gains (LTCG) tax of 10% on sale of equity-oriented fun gains exceeding Rs. 1 lakh is making people think what other investment avenues there may be.
One such avenue is international mutual funds – funds that allow you to invest in equity securities linked to foreign stock markets.
How do they work? What are their returns and risks? Let’s take a look.
Understanding International Equity Funds
Global diversification is often suggested by financial planners, and investing in international equity funds is one of the most convenient ways to diversify investments globally. It allows investors to truly diversify across geographical boundaries.
International mutual funds invest in several different ways. They can be investing purely in ETFs or fund of funds based in foreign countries. Those funds or ETFs may be composed of equity or back by commodities such as gold. They could also be investments made by the fund manager in international equities directly without relying on an offshore fund manager. The investments could be as per sectoral themes such as agriculture, or regional themes such as Asia or emerging markets.
Advantages and Disadvantages
Like any variety of mutual funds, international funds too have their risks and rewards. On the positive side of things, investing in a different country means that you are reducing your exposure to local risks. This may be useful in scenarios when local geopolitical or economic risks escalate, or if a foreign market has clearly emerged as a go-to investment destination.
For example, China recovering from the economic crisis of 2015-16 presented a chance to invest in China-focussed mutual funds, while the recent American stock market rally also presented a chance to invest in America-focussed funds. Investing internationally also allows you to explore markets that may be growing faster than India. On the downside, you’re not insulated from risks in those markets or from exchange rate risks.
Investments in international funds are treated the same way as debt mutual funds.
Short Term Capital Gains – gains accruing within three years from the date of investment – are combined with the investor’s income and taxed as per his slab.
Long Term Capital Gains – gains accruing after three years from the date of investment – are taxed at 20.6% with indexation benefits. This provides greater tax efficiency than the 10% LTCG without indexation on India-based equity funds from April 1.
The indexation benefits would provide you greater tax efficiency on your gains even though the absolute rate of taxation is 20.6%.
While the Indian equity market remains strong, investing in international funds gives the added benefits of geographical diversification, a chance to periodically earn higher returns than Indian markets, and have a higher degree of tax efficiency on your investments.
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