What Is an ETF? Exchange-Traded Funds Explained for India
What is an ETF and how does it work in India? Types of ETFs, iNAV, liquidity, costs, October 2026 tax rules and a worked example of ETF vs index fund costs.
In this article
An ETF, or exchange-traded fund, is a mutual fund scheme whose units are listed on a stock exchange and traded like shares through your demat account. Most ETFs in India track an index, such as the Nifty 50, or a commodity, such as gold, so you get diversified exposure in one unit at low cost. The trade-off is that you buy at the market price during the day, so liquidity and brokerage matter in a way they do not for regular mutual funds.
How an ETF works
An AMC launches the ETF, collects money, and buys the underlying basket, for example the 50 Nifty stocks in index weights. The units are then listed on NSE and BSE.
From then on there are two prices to know:
- NAV: the value of the ETF's holdings per unit, calculated at the end of each day.
- Market price: what buyers and sellers agree on during trading hours.
To keep the two close, AMCs appoint market makers, typically brokers who continuously quote buy and sell prices. Large institutions can also create or redeem ETF units directly with the AMC in big blocks, which pulls the market price back towards NAV when it drifts. Retail investors usually buy and sell on the exchange.
During the day, exchanges and AMCs publish an iNAV (indicative NAV), an estimate of the live value of the holdings, updated frequently. Comparing the market price with the iNAV tells you whether you are paying a premium or getting a discount.
ETFs are regulated by SEBI as mutual fund schemes. The assets are held by a custodian, separate from the AMC's own balance sheet.
Types of ETFs in India
| Type | What it holds | Examples of what they track |
|---|---|---|
| Equity index ETFs | Shares in index weights | Nifty 50, Sensex, Nifty Next 50, Nifty Bank, Nifty Midcap 150 |
| Sector and thematic ETFs | Shares of one sector or theme | IT, PSU banks, CPSE, consumption |
| Smart-beta / factor ETFs | Shares picked by rules such as low volatility or momentum | Nifty 200 Momentum 30, Nifty 100 Low Volatility 30 |
| Gold ETFs | Physical gold of standard purity held in vaults | Domestic gold price |
| Silver ETFs | Physical silver | Domestic silver price |
| Debt ETFs | Government or PSU bonds, T-bills, overnight instruments | Bharat Bond ETF series, G-sec indices, liquid ETFs |
| International ETFs | Foreign shares | Nasdaq-100, S&P 500 and similar indices |
Broad equity index ETFs and gold ETFs are by far the most traded. Many sector and smart-beta ETFs have low trading volumes, which affects the price you get.
ETF vs index fund
Both can track the same index. The difference is how you buy and what you pay.
| Feature | ETF | Index fund |
|---|---|---|
| Where you buy | Stock exchange via broker | AMC, app or distributor |
| Demat account | Required | Not required |
| Price | Live market price | End-of-day NAV |
| Minimum | One unit | Scheme minimum (often ₹100-₹500) |
| SIP | Through broker, whole units | Built-in, any amount |
| Expense ratio | Often lower | Low, slightly higher than ETF |
| Extra costs | Brokerage, bid-ask spread, DP charges | Usually none (exit load in some) |
| Liquidity risk | Yes, for thinly traded ETFs | No, the AMC redeems at NAV |
As of October 2026, under SEBI's new Mutual Funds Regulations effective 1 April 2026, the base expense ratio cap for index funds and ETFs is 0.90%, with statutory levies and brokerage charged separately. Popular large ETFs charge a small fraction of that. For a full walkthrough of the index fund side, see index funds for beginners.
Worked example: premium, spread and costs
Premium to iNAV. A Nifty 50 ETF shows an iNAV of ₹250 while the best offer on the exchange is ₹252. If you buy 100 units:
- You pay 100 × ₹252 = ₹25,200.
- The underlying value is 100 × ₹250 = ₹25,000.
- You have paid a premium of ₹200, or 0.8% ((252 − 250) ÷ 250).
That one trade costs more than several years of a 0.1% expense ratio. Using a limit order close to the iNAV avoids this.
Bid-ask spread. If the best bid is ₹249.80 and the best offer is ₹250.20, the spread is ₹0.40, or 0.16% of ₹250. You lose roughly this each time you buy and then sell. Liquid ETFs have spreads of a few paise; illiquid ones can be much wider.
Annual running cost. Illustrative example: on a ₹5 lakh holding, an ETF with a 0.05% expense ratio costs about ₹250 a year, and an index fund on the same index at 0.20% costs about ₹1,000 a year. The ETF saves around ₹750 a year, but a single 0.8% premium on entry would cost ₹4,000. For a long-term holder who trades sensibly, the ETF can be cheaper; for someone making small monthly purchases with brokerage and spreads, an index fund may cost less overall.
Project the growth of a lumpsum in the lumpsum calculator, keeping the return assumption conservative and labelled as an estimate, not a promise.
How ETFs are taxed (as of October 2026)
Tax depends on what the ETF holds. For FY 2026-27, as of October 2026:
| ETF type | Long-term if held | Long-term tax | Short-term tax |
|---|---|---|---|
| Equity ETFs (65%+ in Indian equity) | Over 12 months | 12.5% above ₹1.25 lakh a year (old Section 112A, now Section 198 of the Income-tax Act, 2025) | 20% (old Section 111A, now Section 196) |
| Gold and silver ETFs | Over 12 months | 12.5%, no indexation | Slab rate |
| Debt ETFs (mainly bonds) | Generally not applicable | Slab rate | Slab rate |
Dividends, where an ETF pays them, are taxed at your slab rate. International ETF taxation depends on how the scheme is classified, so check the AMC's scheme information document and consult a tax professional. Our comparison of stocks vs bonds vs gold covers the broader asset-level tax picture.
How to buy an ETF, step by step
- Open a demat and trading account with a SEBI-registered broker, completing KYC.
- Pick the index or asset first, then the ETF. For a broad equity ETF, compare expense ratio, tracking error and average daily traded value.
- Check the iNAV on the AMC or exchange website before placing the order.
- Place a limit order at or near the iNAV, during active market hours, ideally avoiding the first and last few minutes.
- Hold in your demat account. Settlement on Indian exchanges is T+1, so units are credited the next working day.
Risks to keep in mind
- Market risk: an ETF falls as much as its index.
- Liquidity risk: low-volume ETFs may trade at large premiums or discounts. SEBI rules allow direct redemption with the AMC in specified situations, but you should not rely on that as your exit route.
- Tracking error: returns can lag the index because of costs and cash holdings.
- Concentration: sector and thematic ETFs are far more volatile than broad indices.
If you are deciding between passive and active investing more broadly, see index funds vs active funds.
Key takeaways
- An ETF is a SEBI-regulated mutual fund scheme that trades on the stock exchange like a share and usually tracks an index or commodity.
- You need a demat account; you buy at the market price, so compare it with the iNAV and use limit orders.
- ETFs often have lower expense ratios than index funds, but brokerage, spreads and premiums can wipe out that advantage.
- As of October 2026, equity ETFs are taxed like equity funds, gold and silver ETFs pay 12.5% after 12 months, and debt ETFs are taxed at slab rates.
- Stick to liquid, broad ETFs unless you have a clear reason for a niche one.
Frequently asked questions
Do I need a demat account to buy an ETF?
Yes. ETFs are listed on NSE and BSE and are bought and sold like shares, so you need a demat and trading account with a SEBI-registered broker. If you do not want a demat account, an index fund or fund of funds tracking the same index is the alternative.
Is an ETF better than an index fund?
Not automatically. ETFs often have lower expense ratios, but you pay brokerage and the bid-ask spread, and a thinly traded ETF can trade away from its NAV. Index funds are simpler for SIPs and always transact at NAV.
Can I do a SIP in an ETF?
Many brokers offer a stock or ETF SIP that buys a fixed number of units or a fixed amount each month at the market price. Because ETFs trade in whole units, the amount invested each month can vary slightly.
How are ETFs taxed in India?
It depends on what the ETF holds. As of October 2026, equity ETFs are taxed like equity funds, gold and silver ETFs held over 12 months pay 12.5% long-term tax, and debt ETF gains are generally taxed at your slab rate.
Are ETFs safe?
ETFs are SEBI-regulated mutual fund schemes and the underlying assets are held by a custodian, so you are not exposed to the AMC's own finances. You are still fully exposed to the market risk of whatever the ETF tracks.
This article is for general education and is not personalised financial, tax or legal advice. Rates and rules are as of 19 Oct 2026; confirm current terms with your lender, AMC or a qualified adviser.
