The growing importance of post-tax portfolio construction

Highlights

• As companies transition from MAT to the new tax regime, post-tax outcomes are becoming a more important consideration within portfolio construction decisions.
• In a recent portfolio review, a change in tax structure reduced post-tax returns by approximately 30 basis points despite no change in the underlying portfolio.
• Over longer holding periods, relatively small differences in post-tax returns can create meaningful divergence in portfolio outcomes through the effect of compounding.
• Investors are increasingly reassessing the relative attractiveness of accrual-oriented strategies versus categories where capital gains taxation may improve post-tax efficiency.

With surplus liquidity across operating businesses, promoter entities and family offices remaining elevated over the past few years, portfolio discussions have become increasingly focused on the efficiency of returns rather than headline yields alone.

Historically, allocation frameworks for these pools of capital have been driven by liquidity requirements, capital preservation and pre-tax yield. Taxation has always been a consideration, though often as part of a broader portfolio evaluation rather than a primary driver of allocation itself.

As companies continue evaluating the transition from the Minimum Alternate Tax (MAT) framework to the new corporate tax regime, that balance is gradually evolving.

In a recent portfolio review, a client transitioning from MAT to the new tax regime saw its effective marginal tax rate move from 17.16% to 25.17%.

The underlying portfolio remained unchanged. However, the shift in tax structure had a meaningful impact on post-tax returns.
 

The higher effective tax rate reduced the portfolio’s post-tax return by roughly 30 basis points. On a portfolio of INR 1,000 crore, this would translate into an annual reduction of approximately INR 3 crore in post-tax returns, despite no change in the underlying portfolio itself.

Over longer holding periods, the impact of this differential becomes more significant through the effect of compounding. For instance, a INR 1,000 crore portfolio compounding at 6.7% post-tax would grow to approximately INR 1,913 crore over 10 years, compared to roughly INR 1,859 crore at 6.4%, creating a difference of more than INR 50 crore over time.

What became more evident through the exercise was the differentiation across categories. Allocations where returns were taxed at the marginal rate saw a sharper impact on post-tax outcomes, while categories benefiting from capital gains taxation remained relatively more efficient.

This is prompting investors to reassess the relative attractiveness of different return structures within surplus portfolios. At the same time, traditional fixed income and accrual strategies continue to remain important within overall frameworks, particularly for operating capital and shorter-duration liquidity requirements where stability and predictability remain key considerations.

However, taxation is beginning to play a larger role in determining relative attractiveness across categories.

Potential areas of reassessment within surplus portfolios may include:

• Re-evaluating the role of traditional debt allocations, direct bonds and accrual-oriented products where returns are taxed at the marginal rate
• Greater evaluation of hybrid structures with debt-like risk profiles and categories where capital gains taxation may improve post-tax outcomes
• Increasing allocation discussions around REITs, InvITs and other real asset categories within surplus portfolios
• Balancing liquidity and cash allocations alongside longer-term post-tax efficiency considerations
• Evaluating selective allocations to precious metals such as gold and silver within the broader portfolio mix
• For investors managing operating surplus or strategic pools of capital, this may warrant a closer evaluation of how different return streams are taxed across the portfolio rather than assessing allocations purely on pre-tax yield differentials.

In many cases, portfolio discussions are moving beyond headline returns toward what investors ultimately retain post-tax.

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