Basically, Arbitrage funds takes the advantage of a price difference between two or more markets: striking a combination of matching deals that capitalize upon the imbalance, the profit being the difference between the market prices.
After a downfall of this category of funds in the domestic mutual funds circle, most investors and fund managers are looking towards investing in money market instruments as they seem to boost the returns compared to debt assets. The reason why you as an investor can be attracted to this scheme is because it carries tax benefits just like any other equity investment.
Recent statistics show that the arbitrage fund category has returned almost 6% in 2010 and roughly 4.5% in 2009 but short term money market instruments return over 8.5% annually. To avail this benefit, most fund managers invest about 35% of the amount during certain months. Since an arbitrage scheme needs to invest at least 65% of its fund on July 31 and August 1 to gain the tax advantage of equity products, the other months for investment are targeted. Equity investments beyond a year are exempt from paying capital gains tax. Capital gains tax on redemption before one year is 15%.
The long-term gain is taxed at 10% for debt mutual funds without indexation and 20% with indexation. If you are an investor in the arbitrage fund, make sure that you keep a track of the percentage of returns expected and realized from the same. Also, investing a small portion of your savings in these funds are advised since, now that they are looking towards investing in equity markets, the situation is volatile. A situation wherein you require to repay your debt on a home loan or a personal loan etc is not very like able just because you did not act wisely. Get a careful analyses of the assets that you wish to invest in and follow a systematic investment route.