Mid Cap Funds: All you need to know

Published On: 19-Dec-2021

When investing in mutual funds, one must choose the mutual fund schemes that best suit their financial goals and risk appetite. In addition, selecting the equity investments basis their market capitalisation is one of the selection criteria, as different market cap segments carry different risk-reward trade-offs.

As per SEBI guidelines on classifying companies into large-cap, mid-cap, and small-cap based on their market capitalisation, large-cap companies are the top 100 companies in terms of entire market capitalisation. Accordingly, the following 150 companies, i.e., companies at rank 101 to 250, are classified as mid-cap companies, while all the companies beyond the 250th rank are classified as small-cap companies.

While large-caps may be lesser volatile due to their resilience to short-term shocks in the macro environment, small-caps on the other end are relatively more volatile but, at the same time, also carry higher growth potential.

While large-cap and small-cap funds can be considered the two extremes, the mid-cap funds can be expected to be the balancing investment option between the two. As such, different types of companies and funds may be suitable to investors with varied risk profiles. Investors investing in mid-cap funds in their investment portfolio tends to benefit from the underlying growth opportunities of mid cap companies

What are Mid-cap Funds?

A mid-cap fund is a fund that invests at least 65% of its net assets in the equity and equity-related instruments of mid-cap companies. As such, the mid-cap funds continue to provide a predominant exposure to such companies, reflecting the finer points of both large-cap companies and small-cap companies, i.e., Resilience and Growth. Such companies would operate at a business cycle where the business operations are its best and with reasonable level on persistence, thus potentially boosting the fund returns over the more extended periods.

Due to such funds' inherent advantages, mid-cap funds enjoy a 12% share amongst all the open-ended equity fund categories with Assets Under Management (AUM) of Rs. 1.47 lakh crores as of August 31, 2021. Such funds have an average investment of Rs. 1.91 lakhs per folio in around 75 lakh investor folios, as against the average investment of Rs. 1.63 lakh in all open-ended equity funds

Data source: Association of Mutual Funds in India – AMFI

Who should invest in Mid-cap Funds?

Mid-cap companies may often be those who have grown from being small-cap companies and heading towards being large-cap. As such, the investors may aim to capitalise on the growth potential of such companies and invest in mid-cap funds. Equities may be volatile over the short term, and thus, the ideal investment horizon for investing in mid-cap funds is five years or more.

Taxation on returns of Mid-cap Funds

Since mid-cap funds invest at least 65% of their net assets in equity and equity-related instruments, such funds can be classified as equity-oriented funds under the tax laws. When the investment value has increased against the investment amount, such appreciation is taxed as capital gains at the time of actual realisation by the investor.

When such gains are earned from investments held for less than 12 months, the gains are classified as Short-Term Capital Gains (STCG) and taxed at 15% (plus applicable cess and surcharge). However, if the holding period is 12 months or more, the gains are classified as Long-Term Capital Gains (LTCG) and taxed at 10% (plus applicable cess and surcharge). Further, investors also enjoy an exemption of up to Rs. 1 lakh per year towards Long Term Capital Gains from the sale/ redemption of equity shares and equity-oriented mutual funds taken together.

If the investor has invested under "Payout of income distribution cum Capital Withdrawal," the investors may also receive distributed income from such funds. Such income is taxed at the regular tax rates as applicable and is also subject to 10% TDS (Tax Deduction at Source) if the dividend income from any mutual fund is more than Rs. 5,000.

Note: The tax provisions, as mentioned in the article, are for illustrative purposes only and are updated as per the Union Budget 2021 passed by the Parliament. The tax rates for capital gains will be as per the tax laws applicable on the date of redemption/ sale and not on the date of investment.