What is Capital Gains Tax in India? types, rates, and savings
What is Long term Capital Gains Tax in India
Capital gains tax in India is a complex topic, but it's essential to understand how it works to make informed investment decisions. In this post, we'll break down the basics of capital gains tax, including short-term and long-term capital assets, tax rates, and how the recent changes in income tax rules affect debt mutual fund investors.
What is Capital Gains Tax?
Capital gains tax is a type of tax levied on the profit earned from the sale of a capital asset. The profit earned from the sale of a capital asset is considered income and is subject to taxation.
Investing in a residential property is one of the most popular investments, partly because you get to own a home. Others may invest with the purpose of profiting from the property when they sell it later. It is vital to know that a residential property is considered a capital asset for income tax purposes. As a result, any gain or loss incurred from the sale of a residential property may be subject to taxation under the 'Capital Gains' heading. Similarly, capital gains or losses may result from the selling of a variety of capital assets, including stocks, mutual funds, bonds, and other investments. We will go over the chapter on 'Capital Gains' in detail here.
The term" income from capital earnings" refers to any profit or gain deduced from the trade of a" capital asset." similar capital earnings are taxable in the time the capital asset is transferred. This is known as capital earnings duty. Capital earnings are classified into two types short- term capital earnings( STCG) and long- term capital earnings( LTCG).
Define capital assets.
Land, buildings, houses, automobiles, patents, trademarks, leasehold rights, machinery, and gems are examples of capital assets. This includes holding rights in or connected to an Indian corporation. It also includes management, control, and other legal rights.
The following do not fall into the category of capital assets:
a. Business or professional stock, consumables, or raw materials b. Personal items like clothing and furniture c. Agricultural land in rural (*) India
d. The central government issued 6½% gold bonds (1977), 7% gold bonds (1980), or National Defence gold bonds (1980). e. Special bearer bonds (1991).
f. A gold deposit bond issued under the gold deposit scheme (1999) or a deposit certificate issued under the Central Government's Gold Monetisation Schemes of 2015 and 2019.
Definition of rural area (effective from academic year 2014-15) - A rural area is defined as any place that is beyond the jurisdiction of a municipality or cantonment board and has a population of 10,000 or more. Also, it should not fall within the distance specified below.
|
Shortest aerial distance from the local limits of a municipality or cantonment board |
Population according to the last census |
|
< 2 kms |
> 10,000 |
|
> 2 kms but < 6 kms |
> 1,00,000 |
|
> 6 kms but < 8 kms |
> 10,00,000 |
What are the different types of capital assets?
There are two types of capital assets: short-term capital assets and long-term capital assets.
- Short-term capital assets are held for less than 36 months.
- Long-term capital assets are held for more than 36 months.
1. STCA (Short-term Capital Asset). A short-term capital asset is one that has been held for less than 36 months. So, if you sell the asset within 36 months of purchase, it is classified as a short-term capital asset. However, the holding time for some of the assets has been shortened to 24 months and 12 months.
From FY 2017-18, the requirement is 24 months for unlisted shares (shares that are not listed on a recognized stock exchange in India) and immovable properties such as land, buildings, and houses. For example, if you sell a house after holding it for 24 months, any money generated will be recognized as a long-term Optimize and unify the description of short-term capital assets:
Assets classified as short-term capital assets if held for 12 months or less include:
1. Equity or preference shares in a company listed on a recognized stock exchange in India.
2. Securities like debentures, bonds, and government securities listed on a recognized stock exchange in India.
3. Units of UTI (whether quoted or not) and equity-oriented mutual funds (whether quoted or not).
4. Zero-coupon bonds, if quoted.
This regulation applies if the transfer date is after July 10, 2014, regardless of the purchase date. The reduced holding period of 24 months does not apply to transportable property such as jewelry or debt-oriented mutual funds when sold after March 31, 2017.
2. LTCA (Long-term capital asset): A long-term capital asset is one that has been kept for at least 36 months. They will be regarded as long-term capital assets if held for more than 36 months, as previously stated. So, if you sell the asset after 36 months after purchase, it will be classified as a long-term capital asset. However, for some assets, the holding term is 24 months and 12 months.
Capital assets such as land, buildings, and house property are considered long-term capital assets if the owner retains them for at least 24 months (beginning in FY 2017-18).
Whereas, the assets specified below, if kept for longer than 12 months, will be recognized as
Assets considered as short-term capital assets, if held for 12 months or less, include:
1. Equity or preference shares of companies listed on recognized Indian stock exchanges.
2. Securities such as debentures, bonds, and government securities listed on recognized Indian stock exchanges.
3. Units of UTI, whether they are publicly traded or not.
4. Units of equity-oriented mutual funds, whether they are publicly traded or not.
5. Zero-coupon bonds, whether they are publicly traded or not.
Please note: From April 1, 2023, capital gains from the sale of units in specified mutual funds and market-linked debentures will always be treated as short-term, regardless of the holding period.
Classification of inherited capital assets
If an asset is obtained by a gift, bequest, succession, or inheritance, the period during which the asset was held by the prior owner is also considered when assessing whether it is a short- or long-term capital asset. The period of holding for bonus shares or rights shares begins on the day of allotment, as applicable.
Tax Rates for Long-Term and Short-Term Capital Gains
|
Tax Type |
Condition |
Applicable Tax |
|
Long-term capital gains tax (LTCG) |
Sale of listed equity shares (if STT was paid upon purchase and sale). - units of equity-oriented mutual funds (if STT was paid on the selling of such units) |
10% over and above Rs 1 lakh |
|
Others |
20% |
|
|
Short-term capital gains tax (STCG) Short-term capital gains tax (STCG) |
When Securities Transaction Tax (STT) is not applicable
When STT is applicable |
Normal slab rates 15%. |
Tax on Equity and Debt Mutual Funds
Gains from the sale of debt and equity funds are treated differently. An equity fund is defined as one that invests extensively in equities (greater than 65% of its overall portfolio).
|
Fund |
On or before 1 April 2023 |
Effective 1 April 2023
|
||
|
Short-Term Gains |
Long-Term Gains |
Short-Term Gains |
Long-Term Gains |
|
|
Debt Funds |
At tax slab rates of the individual |
10% without indexation or 20% with indexation whichever is lower |
At tax slab rates of the individual |
At tax slab rates of the individual |
|
Equity Funds |
15% |
10% over and above Rs 1 lakh without indexation |
15% |
10% over and above Rs 1 lakh without indexation
|
Debt Mutual Fund Tax Rules
Gains from debt mutual funds will henceforth be taxed at slab rates and treated as short-term regardless of holding length, according to a recent change to Finance Bill 2023. This means you will lose the indexation benefit. Prior to April 1, 2023, debt mutual funds required to be held for at least 36 months to be considered a long-term capital asset. To benefit from long-term capital gains tax, you must invest in these funds for at least three years. If redeemed within three years, the capital gains will be added to your income and taxed based on your income tax bracket rate.
How Will Income Tax Rule Changes Affect Debt Mutual Fund Taxation?
The new tax regime brings substantial changes for debt mutual fund investors. Let's examine Mr. Vinay's investment scenario to gauge the tax implications:
- Initial Investment: Rs. 100,000 in a debt mutual fund (FY 2018-19)
- Sale Proceeds: Rs. 18,00,000 (FY 2023-24), resulting in a capital gain of Rs. 8,00,000
Comparison of tax implications before and after the rule changes:
[Include a concise table or graph illustrating the tax variations between the previous and current regimes]
|
Particulars |
Financial Year |
CII |
Amount |
|
Sale |
2023-24 |
348 |
18,00,000 |
|
Cost |
2018-19 |
280 |
10,00,000 |
|
Indexed Cost of acquisition |
(10,00,000*348/280) |
12,42,857 |
|
|
LTCG |
(18,00,000-12,42,857) |
5,57,143 |
|
|
Basic Exemption limit |
Rs. 3,00,000 is the basic exemption limit under new regime |
3,00,000 |
|
|
Tax payable |
((5,57,143 - 3,00,000 )* 20%) |
51,429 |
|
Tax liability following changes to the income tax rules (under the new regime).
Assume Mr. Vinay invested Rs. 100,000 in a debt mutual fund in April 2023. He sold the investment at some point in FY 2023-24 for Rs. 18,00,000, resulting in a capital gain of Rs.2,00,000 and other income of Rs. 10,00,000.
|
Particulars |
Financial Year |
Amount |
|
Sale |
2023-24 |
18,00,000 |
|
Cost |
2023-24 |
10,00,000 |
|
LTCG |
|
8,00,000 |
|
Tax payable |
Up to Rs. 3,00,000 = Nil |
36,400 |
LTCG taxation before and after the amendment.
|
Before amendment |
After amendment |
|
51,429 |
36,400 |
The preceding example clearly shows that changes in income tax laws will have a favorable impact on people if they are held for a shorter period of time, but if they are retained for a longer amount of time, the indexation benefit will be lost, resulting in a negative impact on the taxpayer.
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Calculating Capital Gains
Capital gains are calculated differently for long-term investments versus short-term ones.
Terms You Should Know:
Full value consideration: The amount received or to be received by the seller as a result of the transfer of his capital assets. Capital gains are taxable in the year of transfer, even if no compensation is paid.
The cost of acquisition is the price at which the seller acquired the capital asset.
Cost of improvement: Capital expenses incurred by the seller while making additions or adjustments to the capital asset.
Note:
- In some circumstances, where the capital asset becomes the taxpayer's possession other than through outright purchase, the cost of acquisition and improvement incurred by the prior owner is also included.
- Improvements made before April 1, 2001 are never considered.
How do I calculate short-term capital gains?
Step 1: Begin with the total value of consideration.
Step 2: deduct the following:
Expenditure incurred entirely and exclusively in conjunction with such transfer.
Cost of acquisition
Cost of Improvement
Step 3: Deduct the exemptions given in sections 54B/54D from the resulting number.
Step 4: This sum represents a short-term capital gain that will be taxed.
|
Short-term capital gain = |
Full value consideration Less: Expenses incurred exclusively for such transfer( for e.g. brokerage on sale) Less: Cost of acquisition Less: Cost of improvement |
How do I calculate long-term capital gains?
Step 1: Begin with the total value of consideration.
Step 2: deduct the following:
Expenditure incurred entirely and exclusively in conjunction with such transfer.
Indexed costs for acquisition and improvement.
Step 3: From this resultant number, deduct exclusions allowed by sections 54, 54D, 54EC, 54F, and 54.
|
Long-term capital gain= |
Full value consideration Less : Expenses incurred exclusively for such transfer Less: Indexed cost of acquisition Less: Indexed cost of improvement Less: Expenses that can be deducted from full value for consideration |
Expenses incurred as a result of the sale or transfer of a capital asset are allowable deductions. These are the expenses required for the transfer to take place.
Exception: According to Budget 2018, long-term capital gains on the sale of equity shares/units of equity-oriented funds realized after March 31, 2018, will be exempt up to Rs. 1 lakh per year. Furthermore, a 10% tax will be paid on LTCG on shares/units of equity-oriented funds exceeding Rs 1 lakh in a single fiscal year, with no benefit of indexation.
Deductible Expenses from Sale of Assets
A. Sale of House Property
These expenses can be deducted from the total sale price of your house:
- Brokerage or commission paid for securing a purchaser
- Cost of stamp papers
- Travelling expenses related to the transfer (incurred after the transfer)
- Expenses associated with inheritance, such as obtaining a succession certificate or executor costs, may also qualify in some cases.
B. Sale of Shares
You may deduct the following expenses related to the sale of shares:
- Broker’s commission on the shares sold
- Note: Securities transaction tax (STT) is not eligible as a deductible expense.
C. Sale of Jewellery
When selling jewelry with the assistance of a broker, you can deduct the cost of the broker’s services.
Note: Expenses deducted for calculating capital gains cannot be claimed under any other income category and can only be claimed once.
Indexed Cost of Acquisition and Improvement
The indexed cost of acquisition and improvement is adjusted using the Cost Inflation Index (CII) to account for inflation during the holding period of the asset. This adjustment increases the cost base, thereby reducing the capital gains.
To calculate the indexed cost of acquisition:
\[ \text{Indexed Cost of Acquisition} = \text{Actual Cost of Acquisition} \times \frac{\text{CII of the Year of Sale}}{\text{CII of the Year of Acquisition}} \]
|
Indexed cost of acquisition = |
(Cost of acquisition X CII of the year in which the asset is transferred ) / CII of the year in which the asset was first held by the seller or FY 2001-02, whichever is later
|
The cost of acquisition of the assets acquired before 1st April 2001 should be actual cost or FMV as on 1st April 2001, as per taxpayer’s option.
The indexed cost of improvement is calculated as:
|
Indexed cost of improvement = |
Cost of improvement x CII (year of asset transfer) / CII (year of asset improvement) |
Note: Improvements made before 1st April 2001, should not be considered.
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Understanding Exemption on Capital Gains
Example: When Manya purchased a house in July 2004 for Rs. 50 lakh, little did she know that its value would rise significantly by FY 2016-17, reaching Rs. 1.8 crore. As the property was held for over three years, it qualified as a long-term capital asset.
To calculate the capital gains, the cost price was adjusted for inflation using the indexed cost of acquisition formula, resulting in an adjusted cost of Rs. 1.17 crore (refer to the Cost Inflation Index for detailed calculations). Therefore, the net capital gain amounted to Rs. 63,00,000.
Under current tax laws, long-term capital gains from the sale of a house are taxed at 20%. Based on a net capital gain of Rs. 0,63,00,00 this translates to a tax liability of Rs. 12,97,800.
To mitigate this substantial tax liability, taxpayers can leverage exemptions provided under the Income Tax Act. These exemptions allow for a reduction in taxable capital gains when the profit from the sale is reinvested in purchasing another asset.
Section 54 provides an exemption where capital gains from the sale of a home are reinvested in the purchase or construction of two additional homes.
The exemption on two house properties will be granted once in a taxpayer's lifetime, provided that the capital gains do not exceed Rs. 2 crores. The taxpayer must invest the amount of capital gains, not the total selling proceeds. If the purchase price of the new property exceeds the amount of capital gains, the exemption will be restricted to the whole capital gain on sale.
conditions for availing the benefit related to capital gains tax exemption:
1. A new property can be purchased either up to 1 year before or within 2 years after the sale of the property.
2. Alternatively, the gains can be invested in the construction of a property, provided that the construction is completed within three years from the date of sale.
3. According to the Budget for 2014-15, only one house property can be purchased or constructed using the capital gains to qualify for this exemption.
4. It's important to note that this exemption may be revoked if the newly acquired property is sold within 3 years from the date of its purchase or completion of construction.
5. The capital gains tax exemption limit under Section 54 to 54F is now capped at Rs. 10 crore. Previously, there was no specific threshold amount.
If the amount of capital gain exceeds Rs. 2 Crore
If the amount of capital gain exceeds Rs. 2 crore, the taxpayer must either purchase one residential house property within 1 year before or 2 years after the sale of the property, or construct a house property within 3 years after the sale date to avail of the exemption.
Section 54F: Exemption from capital gains on the sale of any asset other than a residential property
impunity on capital earnings arising from the trade of a long- term asset other than a house property. To qualify for this impunity, you must invest the entire trade consideration( not just the capital gain) in a new domestic house property. The new property can be bought either one time before the trade or within two times after the trade.
Alternatively, you can use the earnings to invest in the construction of a property, but the construction must be completed within three times from the date of the trade. In the Budget of 2014- 15, it was clarified that only one house property can be bought or constructed using the trade consideration to claim this impunity. This impunity can be abandoned if the new property is vended within three times of its purchase.
However, the entire capital gain will be pure from levies, If the entire trade proceeds are invested in the new house as per the below conditions.
still, if only a portion of the trade proceeds is invested, the impunity on capital earnings will be commensurable to the quantum invested compared to the net consideration entered from the trade LTCG impunity = Capital earnings x( Cost of new house/ Net consideration)
Section 54EC provides an exemption when capital gains from the sale of a house property are reinvested in specified bonds.
-
Instead of reinvesting the proceeds into another property, you can invest them in bonds issued by the National Highway Authority of India (NHAI) or Rural Electrification Corporation (REC) for up to Rs. 50 lakhs.
-
These bonds can be redeemed after 5 years from the date of purchase, but cannot be sold before the lapse of 5 years.
-
You have six months from the date of sale to invest in these bonds. However, to claim this exemption, the investment must be made before the tax filing deadline.
Section 54B: Exemption from Capital Gains on Transfer of Land Used for Agricultural Purpose
Section 54B provides an exemption on capital gains arising from the transfer of land used for agricultural purposes in an urban area, owned by an individual, their parents, or a Hindu Undivided Family (HUF). To qualify for this exemption:
1. The land must have been used for agricultural purposes by the individual, their parents, or HUF for at least 2 years preceding the sale.
2. The exempted amount is the lower of the investment in a new asset or the capital gain itself.
3. You must reinvest the proceeds into a new agricultural land, either in an urban or rural area, within 2 years from the date of transfer.
4. The newly purchased agricultural land must not be sold within 3 years from the date of its purchase to retain the exemption.
5. If you are unable to purchase the agricultural land before filing your income tax return, you can deposit the amount of capital gains into a deposit account in any branch (excluding rural branches) of a public sector bank or IDBI Bank under the Capital Gains Account Scheme, 1988.
6. The exemption can be claimed for the amount deposited as per the Capital Gains Account Scheme. If the deposited amount is not utilized for the purchase of agricultural land within the specified time, it will be treated as capital gains in the year when the 2-year period from the date of land sale ends.
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Section 54D offers tax exemptions on capital gains resulting from the transfer of land and buildings used for industrial purposes, provided the following conditions are met:
1. The land and building must be compulsorily acquired for an industrial undertaking.
2. The assessee must have utilized the land and building for the industrial business in the two years leading up to the transfer date.
3. Within three years from the transfer date, the assessee must either acquire another land or building, or construct a new building for relocating or re-establishing the existing industrial operation, or for setting up a new industrial undertaking.
4. If the investment in the new asset is not completed before filing the income tax return, the capital gain must be deposited into the Capital Gains Account Scheme (CGAS).
Regarding the exemption amount:
1. If the cost of the new asset equals or exceeds the sale consideration, the entire capital gain will be exempted.
2. If the cost of the new asset is less than the capital gains, only the amount equivalent to the cost of the new asset will be exempted from taxes.
about when to invest in the Capital Gains Account Scheme:
Investing in the Capital Gains Account Scheme can be a strategic move, especially when the process of finding a suitable property, arranging funds, and completing paperwork takes time. Recognizing these challenges, the Income Tax Department provides a window to deposit capital gains if they haven't been reinvested by the due date for filing the return (typically by 31st July) of the financial year in which the property was sold.
Under the Capital Gains Account Scheme, 1988, these funds can be deposited in a designated PSU bank or specified banks. This deposit qualifies for exemption from capital gains tax, ensuring no immediate tax liability. However, failure to invest these funds within the specified timeframe will result in the deposited amount being treated as a short-term capital gain in the year when the deadline lapses.
Saving Tax on Sale of Agricultural Land
1. Agricultural land situated in a rural area in India is not classified as a capital asset. Therefore, any gains from its sale are not taxable under the head of capital gains. For specific criteria defining agricultural land in a rural area, refer to the relevant guidelines.
2. If you hold agricultural land as part of your trading inventory (stock-in-trade), meaning you engage in regular buying and selling of land as part of your business, any gains from its sale are taxable under the head of Business and Profession.
3. Capital gains arising from the compulsory acquisition of urban agricultural land are exempt from tax under Section 10(37) of the Income Tax Act.
If your agricultural land does not fall into any of the above categories, you may be eligible for exemption under Section 54B.
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