Income plus arbitrage funds have expanded rapidly since their launch, with the category now comprising 22 schemes in less than two years. Major fund houses, including HDFC Mutual Fund and Sundaram Mutual Fund, have also entered the segment this year. These debt-oriented mutual fund schemes were introduced with the aim of providing investors with potentially better post-tax returns.
However, investor interest appears to be cooling. After attracting nearly ₹21,000 crore in 2025, income plus arbitrage funds saw investors withdraw around ₹2,000 crore during the first seven months of 2026 through 31 July, according to MFI360 Explorer, a fund research platform from Icra Analytics.
Debt investments
Income plus arbitrage funds combine debt investments, which generate interest income, with arbitrage strategies designed to benefit from price differences between cash and futures markets. The products are targeted at investors looking for relatively stable returns through a combination of debt and arbitrage exposure.
One of their biggest attractions is taxation. Since these funds invest at least 35% of their assets in arbitrage funds, they can qualify for equity-oriented taxation. This potentially allows investors to earn higher post-tax returns than traditional debt funds, particularly those in higher tax brackets.
The category, however, is still relatively new and needs to establish a longer track record. In the short term, performance has been mixed. Income plus arbitrage funds have underperformed money market and arbitrage funds, although they have done slightly better than some traditional debt categories.
Average returns
According to Value Research, income plus arbitrage funds delivered an average return of 5.7% over the year ended 11 August. Money market funds generated an average 6.22%, while arbitrage funds returned 5.73%. Short-duration debt funds gained 5.33% and corporate debt funds rose 5.43% during the same period.
Unlike conventional debt funds, income plus arbitrage funds do not follow a single investment strategy based on maturity or credit quality. They can invest across several debt fund categories, either within the same asset management company or across different fund houses. This makes direct comparisons with short-duration, long-duration or credit-quality-focused debt funds difficult.
The category, earlier known as debt advantage funds, emerged in 2024 and was positioned as a tax-efficient alternative for investors seeking debt-like returns without taking direct equity risk. Of the 22 schemes currently available, several are existing debt-oriented strategies that have been repackaged under the income plus arbitrage structure.
Typically, these funds allocate at least 35% of their assets to arbitrage funds, with the remaining portion invested in debt funds. Arbitrage funds generally buy shares in the cash market while simultaneously using futures and other derivatives to hedge equity exposure.
The 35% allocation is important because it allows the overall fund to qualify for equity-oriented taxation. If held for two years or more, gains can be taxed at 12.5%. By contrast, returns from traditional debt funds are generally taxed according to the investor’s income-tax slab, which can exceed 30% for high-income investors.
Ideal for investors in a higher tax bracket
Financial experts say these funds may be more appropriate for investors in the 25% or higher tax bracket who have a two- to three-year investment horizon.
The two largest schemes in the category are Kotak Income Plus Arbitrage Omni Fund of Funds, with about ₹7,900 crore in assets at the end of July, and ICICI Prudential Income Plus Arbitrage Omni Fund, with roughly ₹3,200 crore, according to ICRA data.
Both funds maintain substantial exposure to high-quality debt. Kotak allocates around 30-32% to corporate debt funds, 8-10% to a fund investing in state development loans and about 20% to a short-term debt fund. ICICI Prudential similarly invests 30-32% in corporate debt funds and around 8-10% in state development loans, while nearly 13% is allocated to a gilt fund investing in government securities.
Most of the debt exposure in both schemes is concentrated in AAA-rated securities, which are considered to carry a relatively low risk of default.