Budget 2026 Proposes Major Tax Change for Investors Using Borrowed Funds
The Union Budget 2026 has introduced a significant proposal that will directly affect investors who utilize borrowed capital to invest in dividend-paying stocks or mutual funds. The budget seeks to remove the existing tax benefit that permitted investors to claim a deduction on interest payments associated with such borrowings.
Current Tax Relief Mechanism for Investors
Under the present provisions of Section 93 of the Income-tax Act, 2025, taxpayers are allowed to deduct a portion of the interest expense incurred for earning dividend income or income from mutual fund units. This deduction is subject to a prescribed limit of 20% of the gross dividend or mutual fund income earned.
For example, if an investor earns ₹1,00,000 as dividend income and has paid ₹25,000 as interest on borrowed funds, the allowable deduction is capped at ₹20,000, which represents 20% of the dividend income. This mechanism has provided partial tax relief to investors who employ leveraged strategies to build income-generating portfolios from equities and mutual funds.
Proposed Amendment in Budget 2026
The Budget proposes to amend Section 93 of the Income-tax Act, 2025, effectively withdrawing this benefit entirely. According to the Budget documents, "It is proposed to provide that no deduction shall be allowed in respect of any interest expenditure incurred in relation to dividend income or income from units of mutual funds, and to omit the existing provision permitting such deduction subject to a specified ceiling."
The Income-tax Department has further clarified that the amendment will ensure that no interest expense is allowed as a deduction against dividend income or income from mutual fund units taxable under the head "Income from other sources." This applies irrespective of whether the borrowing can be directly linked to the income earned.
Implications for Taxpayers and Investment Strategies
Once the amendment takes effect, dividend income and income from mutual fund units will be computed without permitting any reduction for interest expenses. This restriction will apply to all taxpayers, including individual investors.
After the amendment, even if an investor has taken a loan specifically for investing in dividend-yielding stocks or mutual fund schemes, the interest paid on that loan will not be eligible for any tax deduction. This change is poised to alter the tax efficiency of leveraged investment strategies and is likely to influence how investors approach dividend and mutual fund income in the future.
The proposal marks a shift in tax policy that could prompt investors to reassess their financial planning and investment approaches, particularly those relying on borrowed funds to enhance their portfolio returns.
