Grandfathering is the tax provision that protects pre-Budget 2018 gains in equity mutual funds from LTCG tax — gains accrued before January 31, 2018 are exempt from the 10% LTCG tax introduced in Budget 2018.
When LTCG tax on equity funds was reintroduced in Budget 2018 (effective February 1, 2018), the government protected existing investors through a grandfathering clause: the cost of acquisition for equity investments was 'stepped up' to the higher of the actual purchase price or the fair market value (NAV) as on January 31, 2018. This means any gains that had already accumulated before January 31, 2018 are effectively tax-free. Only gains from February 1, 2018 onwards are subject to 10% (later revised to 12.5%) LTCG tax.
Imagine you bought a fund for ₹50 per unit in 2015. By January 31, 2018, the NAV was ₹80. By 2024, NAV is ₹180. Without grandfathering, you'd pay LTCG tax on ₹130 gain per unit (₹180 − ₹50). With grandfathering, your 'deemed cost' is ₹80 (the Jan 31, 2018 NAV) — so you only pay tax on ₹100 gain per unit (₹180 − ₹80). The ₹30 gain before 2018 is completely exempt.
Effective from February 1, 2018 for LTCG on equity funds.
Cost basis 'stepped up' to the NAV on January 31, 2018 (or actual cost if higher).
LTCG tax of 12.5% applies only to gains from February 1, 2018 onwards.
Applicable to any equity fund held since before February 1, 2018 and redeemed on or after April 1, 2018.