Union Income Plus Arbitrage Active FOF: Jugal Bandi of stability and tax efficiency

Union MF has launched a New Fund Offer (NFO), Union Income Plus Arbitrage Fund of Funds. Income Plus Arbitrage is a relatively new fund category and is becoming increasingly popular with investors after the tax changes announced in Union Budget 2024. Income Plus Arbitrage Fund of Funds invest in debt and arbitrage schemes with asset allocation to ensure tax efficiency. In this article we will discuss about this category and the Union Income Plus Arbitrage Active FOF NFO. The NFO has opened for subscription on 22^nd May 2025 and will close on 5^th June 2025.

What is Income Plus Arbitrage FOF?

The Income plus arbitrage FOFs invest a 35% to 65% of their assets in debt mutual fund schemes and the balance in arbitrage schemes. Since the equity allocation of these schemes are between 35 to 65%, long term capital gains (investment holding period of more than 2 years) are taxed at 12.5%.

Why invest in Income plus Arbitrage?

1. Tax efficiency: Income plus Arbitrage Funds of Funds are much more tax efficient compared to traditional fixed income (e.g. Bank FDs) and debt mutual funds.
   
   

   



2. Stability of debt funds: Fixed income is less volatile than asset classes like equity and provide stability and income in your investment portfolio. Yields on a declining trend with cooling inflation and change in policy stance of RBI from "neutral to accommodative" (see the chart below). Bond prices have an inverse relationship with interest rates or yields i.e. bond prices go up when interest rates or yields fall and vice versa. The RBI has cut repo rate by 50 bps in CY 2025 and more rate cuts are expected. The current interest rate scenario is favourable for debt funds.
   
   

   

   Source: Investing.com, as on 30^th April 2025



3. Exploiting arbitrage opportunities in the market: Arbitrage funds, however, take advantage of price disparities in the market by buying and selling the same underlying asset (security) in the cash and F&O market simultaneously. For if a stock is trading at Rs 100 in the cash market and its futures are trading at Rs 102 in the F&O market, the fund manager can lock-in Rs 2 of risk free profit per share by simultaneously buying the stock in the cash market and selling the futures in the F&O market. Irrespective of whether the share price goes up or down the profit is locked in because the cash and futures market prices will converge on expiry. Arbitrage opportunities depend on interest rates and market volatility. Current market conditions are suitable for arbitrage opportunities (see the chart below).
   
   

   

   Source: National Stock Exchange, Advisorkhoj Research as on 23^rd May 2025



4. Attractive risk return trade off: The table below shows the rolling returns of the benchmark (60% Nifty Composite Debt Index + 40% Nifty 50 Arbitrage Index) for different investment tenures. You can see that the average rolling returns is in the 7.25 % to 7.31% range, while the minimum returns improve to 5.72% and 6.70% over 7 year and 10 year investment tenures. You can also see that volatility reduces significantly over longer investment tenures. This risk return trade off Income plus Arbitrage FOFs make them attractive investment options compared to traditional fixed income investments.
   
   

   

   Source: National Stock Exchange, Union MF. Period: 1^st April 2010 to 30^th April 2025

Union Income Plus Arbitrage Active FOF – Asset Allocation

Union Income Plus Arbitrage Active FOF – Investment Strategy

Underlying Funds

• Union Corporate Bond Fund: An open ended debt scheme predominantly investing in AA+ and above rated corporate bonds. A relatively high interest rate risk and moderate credit risk


• Union Gilt Fund: An open ended debt scheme investing in government securities across maturity. A relatively high interest rate risk and relatively low credit risk


• Union Arbitrage Fund: An open ended hybrid scheme investing in Arbitrage Opportunities
  
  

  

Tax Advantage: Income Plus Arbitrage FOF versus Debt Fund + Arbitrage Fund

The main benefit here is again the taxation. Suppose your portfolio has a mix of 60% in debt and 40% in arbitrage, long term capital gains from 60% will be taxed as per income tax slab, while the long-term capital gains 40% would be taxed at 12.5% (after allowing exemption of up to Rs 1.25 lakhs). In Income plus Arbitrage FOFs, the entire long term capital gains are taxed at 12.5%.

Let us assume you want to invest Rs 50 lakhs, with 60% allocation to debt and 40% allocation to arbitrage. Your investment tenure is 2 years, and your income tax slab rate is 30% (excluding surcharge and cess). Your capital gains in debt fund will be taxed at your income tax slab rate and capital gains arbitrage will be treated as long term capital gains in equity taxation i.e. exempt up to Rs 1.25 lakhs and taxed at 12.5% (excluding surcharge and cess) thereafter. You can see that your tax obligation is significantly lower and post-tax gains (net profit) significantly higher in the Income Plus Arbitrage FOF.

Source: Return assumed for debt fund is average 5 year rolling returns of Nifty Short Duration Debt Index (1.4.2010 to 30.04.2024). Return assumed for arbitrage fund is average 5 year rolling returns of Nifty 50 Arbitrage Index (1.4.2010 to 30.04.2024). Return assumed for Income plus arbitrage FOF is average 5 year rolling returns of 60% Nifty Short Duration Index and 20% Nifty 50 Arbitrage Index (1.4.2010 to 30.04.2024).

Why invest in Union Income Plus Arbitrage Active Fund of Funds?

Who Should Invest in Union Income Plus Arbitrage Active Fund of Funds?

• Investors who have an investment horizon of more than 2 years


• Investors looking to benefit from debt-like stability with efficient taxation (12.5% LTCG after 2 years)


• Investors seeking stable returns across market cycles / interest rate cycles with low credit risk


• Investors seeking to gain access to relevant debt and arbitrage funds in a single investment / fund, with added benefit of diversification


• Investors who want to leverage expertise of professional fund managers to select and monitor underlying fund

Contact your financial advisor or mutual fund distributor to understand how you can include the Union Income Plus Arbitrage Active FOF in your portfolio.