Section 194K: TDS on Mutual Fund Distributions Demystified

Mutual fund investors often receive income in the form of dividends or capital gains. While capital gains are taxed at the time of redemption, dividend income is now subject to Tax Deducted at Source (TDS) under Section 194K of the Income Tax Act.

Introduced by the Finance Act 2020, this section ensures tax collection on mutual fund income before distribution, creating greater transparency in investment taxation. Let’s understand the scope, rates, exemptions, and compliance requirements of Section 194K TDS in detail.

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TDS

What is Section 194K of the Income Tax Act?

Section 194K mandates that any person responsible for paying income to a resident individual from mutual fund units must deduct TDS before crediting the income.

It applies to dividends distributed by mutual funds, not capital gains.
TDS is deducted when the amount exceeds the prescribed threshold.

The provision applies to resident investors only (non-residents are covered under Section 195).

Types of Mutual Fund Income Covered Under Section 194K

Type of Income	TDS Applicability	Section Applicable
Dividend from Mutual Funds	✅ Applicable under Section 194K	194K
Capital Gains on Redemption / Sale	❌ Not covered under Section 194K	Taxable as STCG/LTCG
Bonus / Reinvestment Income	✅ TDS applies if treated as dividend distribution	194K
Dividend from Equity / Debt Mutual Funds	✅ Applicable	194K

Thus, only dividend distributions (periodic or reinvested) are covered under Section 194K, while redemption proceeds fall under capital gains taxation.

Purpose of Section 194K in Mutual Fund Taxation

Before FY 2020-21, mutual funds paid a Dividend Distribution Tax (DDT) before distributing dividends, and investors received the post-tax amount. Budget 2020 abolished DDT and shifted the tax liability to investors, introducing Section 194K to ensure TDS at source on dividend income.

Objectives of Introducing Section 194K

Prevent revenue leakage due to underreporting of dividend income.
Simplify tax collection through the TDS mechanism.
Bring parity between dividend income from companies and mutual funds.
Reduce the compliance burden on small investors by setting a threshold limit.

TDS Rate and Threshold Limits Under Section 194K

Particulars	Details
Applicable From	1 April 2020
Applicable To	Resident individuals receiving mutual fund income
Nature of Income	Dividend distribution or reinvestment
Threshold Limit	₹5,000 per financial year (per fund house)
TDS Rate	10% on the dividend amount
If PAN not furnished	20%
When to Deduct TDS	At the time of credit or payment, whichever is earlier

Example: If you receive ₹6,000 as dividend from a mutual fund in a financial year, TDS @ 10 % = ₹600 will be deducted, and you’ll receive ₹5,400.

Exceptions and Exemptions Under Section 194K

Exemption Scenario	Description
Dividend ≤ ₹5,000/year	No TDS deduction if total dividend from a mutual fund house is ≤ ₹5,000 in a year.
Income credited to NPS/EPF	Dividends credited directly to NPS/EPF accounts are exempt.
Non-Resident Investors	Covered under Section 195, not Section 194K.
Form 15G / 15H Submission	Investors with low income can submit these forms to avoid TDS deduction.

TDS on Mutual Fund Redemption vs Dividends

Basis	Dividend Income	Redemption / Sale Income
Nature of Income	Dividend Distribution	Capital Gains
TDS Applicability	Yes, under Section 194K	No
Tax Treatment	Added to total income and taxed as per slab	Taxed as STCG/LTCG based on holding period
Applicable Rate	10% (20% if no PAN)	Nil TDS (tax payable during return filing)
Reporting	Shown under “Income from Other Sources”	Shown under “Capital Gains”

This distinction is crucial because investors often mistake redemption proceeds for dividend income.

How Budget 2020 Changed Mutual Fund Taxation

Budget 2020 brought a paradigm shift in how mutual fund income is taxed.

Before Budget 2020

Dividend Distribution Tax (DDT) was paid by mutual funds.
Investors received dividend income tax-free.
No TDS was applicable.

After Budget 2020

DDT abolished.
Dividend income became taxable in the hands of investors.

TDS under Section 194K introduced at 10 %.

Taxation Aspect	Before Budget 2020	After Budget 2020
Tax Paid By	Mutual Fund House	Investor
TDS Deducted	No	Yes (u/s 194K)
Dividend Income Taxability	Exempt	Taxed as per income slab
DDT Rate	11.648% to 29.12%	Abolished

This reform aimed at making mutual fund taxation fairer and more transparent, especially for high-income investors

Consequences of Non-Compliance With Section 194K

Non-compliance can result in penalties, interest, and disallowance of expenses for mutual fund houses or distributors.

Nature of Default	Penalty / Interest Applicable
Failure to deduct TDS	Interest @ 1% per month (from due date of deduction to actual deduction)
Failure to deposit TDS	Interest @ 1.5% per month (from deduction date to payment date)
Late filing of TDS return (Form 26Q)	₹200 per day u/s 234E (up to total TDS amount)
Incorrect filing / mismatch	Penalty ₹10,000 – ₹1 lakh u/s 271H

Mutual fund houses must ensure accurate deduction, deposit, and quarterly filing to avoid scrutiny.

Conclusion

Section 194K ensures a fair and traceable system of tax collection on mutual fund dividend income. While investors now bear the tax liability, the TDS mechanism ensures early compliance and reduces chances of underreporting.

To summarize:

TDS @ 10 % applies on dividend income above ₹5,000 per mutual fund house per year.
No TDS applies on capital gains from redemption.
Non-residents are covered separately under Section 195.

Investors should monitor Form 26AS , verify TDS credits, and declare dividend income accurately during ITR filing to avoid mismatches and scrutiny.

Vineet Goyal

Chartered Accountant

MRN No.: 411502

City: Delhi

I am a chartered accountant with over 14 years of experience. I understand income tax, GST, and balancing financial records. I analyze financial statements and tax codes effectively. However, I also have a passion for writing, which is different from working with numbers. Recently, I started writing articles and blog posts. My goal is to make finance easier for everyday people to understand.

Frequently Asked Questions

What type of mutual fund income is covered under Section 194K?

Only dividend income distributed by mutual funds is covered under Section 194K. Capital gains on redemption are not subject to TDS.
What is the current TDS rate on mutual fund distributions?

The TDS rate is 10 % on dividend income exceeding ₹5,000 per financial year (20 % if PAN not furnished).
Are mutual fund redemptions subject to TDS?

No. TDS does not apply to redemption proceeds; these are taxed separately under short-term or long-term capital gains.
What are the exemptions under Section 194K?

No TDS applies if dividend income does not exceed ₹5,000 in a year or if the investor has submitted Form 15G/15H.
How did Budget 2020 impact mutual fund taxation?

Budget 2020 abolished Dividend Distribution Tax (DDT) and made dividend income taxable in investors’ hands, with TDS introduced under Section 194K.

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