Understanding capital gains taxation in India and new rules after January 2018

Capital gains is the profit an individual earns from the sale of an asset when the selling price of an asset exceeds its purchase price.  Asset can be equity, debt, gold, immovable property, machinery or intellectual property such as patents and trademarks. The tax for this capital gain* needs to be paid in the year that the asset selling takes place. For purpose of taxation, the capital assets are classified based on the holding period or tenure for which the investments are held (see table):

*Capital loss is reverse of capital gains when the sale price is less than the purchase price. There are provisions where the gains and loss can be adjusted.

Depending on the holding period as mentioned in the above table capital gains are classified into short term capital gain and long-term capital gains and accordingly taxed. Details are as follows:

Short term capital gain tax (STCG) – Asset sold within 36 months or less is a short-term capital asset. The holding period and taxation varies across assets.  Like for instance, equity and preference shares listed on the stock exchange along with equity oriented mutual funds sold within 12 months qualifies for STCG tax. In addition, assets like debentures, bonds, government securities, etc. which are listed on the stock exchange, units of UTI and zero-coupon bonds; the period of holding for STCG tax is 12 months instead of 36 months.  For immovable assets like house, building and land etc. the duration for STCG tax was reduced from 36 months to 24 months in 2017.  In case of gold and debt oriented mutual funds, the STCG is applicable is applicable in case of the asset is sold within 36 months. Next for the purpose of the tax rate, short-term capital gains are classified as follows:

• Short-term capital gains covered under section 111A
• Short-term capital gains other than covered under section 111A

Notes:

^ The normal tax rates for the fiscal 2021-22 applicable to resident individuals below the age of 60 years are as follows:

Nil up to income of Rs. 2,50,000

5% for income above Rs. 2,50,000 but up to Rs. 5,00,000

20% for income above Rs. 5,00,000 but up to Rs. 10,00,000

30% for income above Rs. 10,00,000.

Health & education cess @ 4% will be levied on the amount of tax

Example: For calculation of STCG under section 111A

An individual A bought 1000 shares of ABC company at Rs 100 each costing Rs 1 lakh on September 2020 and he sold the shares in August 2021 as the market reached the record highs at Rs 125 each taking the value of investment to Rs 1.25 lakh. As he did the transaction through a broker the expenditure, he incurred at Rs 100, so STCG tax in this case will be:

Example: For calculation of STCG other than covered under section 111A

An individual A bought plot of land for Rs 10 lakh on March 2018 and sold the plot within 24 months at Rs 11.10 lakh prior to pandemic in October 2019 then the STCG in this case will be added to his income and will be taxed as per the tax slab

When the STCG is added to income and calculated

For illustrative purpose only, consult your tax advisor

Individuals should note that he or she can do adjustments of the STCG against the basic exemption limit i.e., up to certain level of income person is not required to pay any tax. The basic exemption limit applicable in case of an individual for the financial year 2021-22 is as follows:

• Exemption limit is Rs 5 lakh for resident individual of the age of 80 years or above
• Exemption limit is Rs 3 lakh for resident individual of the age of 60 years or above but below 80 years
• Exemption limit is Rs 2.5 lakh for resident individual of the age below 60 years
• Exemption limit is Rs 2.5 lakh for non-resident individual irrespective of the age of the individual
• Exemption limit is Rs. 2.5 lakh for Hindu Undivided Family (HUF)

Example: An individual of 30 years age is a salaried employee and whose taxable salary is Rs 170000 and other income that he earns from his investment is Rs 30000 then total taxable income will be Rs 2 lakh (1.7 lakh+30000) and is tax liability will be nil as his total taxable income falls below Rs 2.5 lakh limit.  

Long term capital gains tax (LTCG) is applicable on the asset held for the period of more than 12 months in case of shares (equity or preference), units of equity oriented mutual funds, listed securities like debentures and government securities, units of UTI and Zero-Coupon Bonds.  For other assets like debt oriented mutual funds, gold the holding period is more than 36 months while for immovable property the period is more than 24 months.  

The long-term capital gain tax rate is 20% plus surcharge and cess as applicable. However, in some cases the gain will be charged at 10% (plus surcharge and cess as applicable). These cases are as follows:

• LTCG earned by selling listed securities of more than Rs 1 lakh in accordance with the Section 112A of the Income Tax Act of India.
• LTCG earned by selling securities like bonds, debentures or other marketable securities listed on a recognised stock exchange in India, zero-coupon bonds, and any mutual Funds or UTI that was sold on or before 10th July 2014

Assets which are not covered under Section 112A have two options:

• Avail of the benefit of indexation; the capital gains so computed will be charged to tax at normal rate of 20% (plus surcharge and cess as applicable)
• Do not avail of the benefit of indexation; the capital gain so computed is charged to tax @ 10% (plus surcharge and cess as applicable)

Among the aforementioned option, one has to calculate the tax liability under both the options, and the option with lower tax liability is to be selected.

Reintroduction of LTCG on equity investments in Budget 2018

The reintroduction of the LTCG on equity investments in Budget 2018 came as a surprise and was most talked about. However, despite the LTCG individuals can reduce their tax liability as gains up to Rs 1 lakh was tax free, grandfathering investments made on or before 31 January 2018, thirdly setting off and carrying forward losses where in long term capital loss can be set off against long term capital gains (LTCG) and carried forward for eight consecutive financial years for offsetting purpose and lastly tax harvesting wherein LTCG booked in equities up to Rs 1 lakh is reinvested.  Reinvestment should be immediately after redeeming the investments.

Illustrated with the examples below: 

Example:

1) Individual invest Rs 2 lakh in January 2020 and sells his investment for Rs 2.80 lakh in March 2021 i.e., after 15 months, so LTCG up to Rs 1 lakh is tax free and his gains was less than Rs 1 lakh i.e., Rs 80,000 and hence, it will not be taxed.  

2) In context of grandfathering, individual invested Rs 1.5 lakh in March 2016. The value of investment on January 31, 2018 was Rs 3 lakh and individual sells his investment at Rs 4.2 lakh after March 31, 2018, as LTCG will be calculated using January 31, 2018, gains is only Rs 1.2 lakh and LTCG up to Rs 1 lakh is taxed free so only Rs 20,000 gains will be taxed at rate of 10%.

3) In case of setting off losses, individual invested Rs 1.5 lakh in September 2017 and on January 31, 2018 the value of investment falls to Rs 1 lakh. If the individual sells after April 2018, then loss of Rs 50,000 can be adjusted against other LTCG.  So, if the individual makes LTCG of Rs 1.5 lakhs then he need not pay any taxes as Rs 50,000 will be adjusted against the gains and Rs 1 lakh is tax free.

Unadjusted losses can be carried forward and set off against gains for up to eight financial years.

Just like in case of STCG, there are exemptions for LTCG as well. But such adjustment is possible only after making adjustment of other income.  The exemption limit are follows:

• For individual below 60 years of age, the limit is Rs 2.5 lakh
• For individual falling between 60 to 80 years of age, the limit is Rs 3 lakh
• For individual above 80 years of age, limit is Rs 5 lakh

Summing up

Taxes are unavoidable and often complicated to understand. Hence, individuals often find it difficult to reduce their tax liability. However, proper tax planning and understanding of the tax provisions can help to reduce the tax outgo. Individuals can use online tax calculators and tax reckoner to calculate their tax liability and find out the latest tax rates.  They can also take help of tax experts and bring down their tax liability.