Section 112A of income tax act: Tax Treatment of Long-Term Capital Gains (LTCG) on Shares
Updated: Oct 22
Capital gains are the proceeds from the sale or transfer of any kind of asset, moveable or immovable. These resources are referred to as capital. Capital assets may fall into two categories based on how long a seller has held the assets prior to a transaction. There are long-term and short-term capital assets among them. Section 112 and Section 112A of the Income-tax Act of 1961 are the two sections that deal with LTCG taxation. The taxation of LTCG on listed shares, equity-oriented funds, and business trust units is particularly covered by Section 112A. We will talk about Section 112A in this post, including its instances, exemptions, and applicability.
Table of Content
Understanding Section 112A: Long-Term Capital Gains Taxation
Section 112A of the Income Tax Act was introduced in the Finance Act of 2018 to govern the taxation of long-term capital gains (LTCG) arising from the transfer of equity shares and units of equity-oriented mutual funds. This section aims to simplify the tax implications for investors while ensuring compliance with tax regulations. The introduction of this section marked a significant change in how long-term capital gains are taxed, particularly by imposing a tax on gains exceeding ₹1 lakh.
Scope and Applicability
Section 112A applies to:
Individuals: This includes any person who is a resident or non-resident individual.
Hindu Undivided Families (HUFs): HUFs can also benefit from this provision.
Partnership Firms and Companies: Certain entities that hold equity shares or units of equity-oriented mutual funds may also be subject to this section.
To qualify under Section 112A, taxpayers must have realized long-term capital gains from:
The sale of listed equity shares.
The sale of units of equity-oriented mutual funds.
It is essential for taxpayers to determine their eligibility under this section based on their investment portfolios and the nature of their transactions.
What is Section 112A of the Income Tax Act, 1961?
The Income Tax Act's Section 112A deals with the taxation of long-term capital gains that result from the transfer of certain assets, including business trust units, equity shares, and equity mutual funds. The investor is liable to a 10% tax, which only kicks in when the amount of capital gains in a given financial year surpasses INR 1 lakh. If the following criteria are met, section 112A capital gain tax will only be applied:
The sale must involve equity shares, business trust units, or units of an equity-oriented mutual fund.
The securities ought to be long-term capital assets, meaning that they should be held for more than a year.
The capital gains exceed one lakh rupees.
Securities Transaction Tax (STT) applies to the buying and selling of equity shares. The selling transaction is subject to STT in the case of business trusts or equity-oriented mutual fund units.
Section 112A of Income Tax Act Applicability
To take advantage of the concessional rate under section 112A of the Income-tax Act of 1961, the following requirements must be met:
Upon purchasing and transferring an equity share of a corporation, the securities transaction tax (STT) has been paid.
If units of a business trust or units of an equity-oriented fund, the STT was paid upon the asset's sale.
Long-term investments should be made in the securities.
For such a long-term capital gain, there is no deduction allowed under Chapter VI A.
Long-term capital gain tax payable under section 112A is not eligible for a refund under section 87A.
Latest Updates on LTCG on Shares
A few modifications to India's long-term capital gain tax on shares were made in 2018. The way short-term capital gains are taxed, however, has not changed. If there was a Securities Transaction Tax (STT) applied to the asset at the time of purchase and sale, the tax on short-term capital gains is 15%. Section 10(38) of the Income Tax Act of 1961 was repealed in the 2018 budget. The exemption from long-term capital gains tax on equity shares that resulted from the sale of equity shares and mutual funds with an equities focus was eliminated. The Kelkar Committee proposed the clause in the Finance Act of 2004. The purpose of this action was to attract investments from foreign institutional investors (FII). However, Section 112A took the place of Section 10 (38) following the 2018 budget. The following assets are assumed to result in capital gains subject to taxation in this section:
Equity shares
Units of equity-oriented funds or funds with an equity orientation
Units or businesses within business trusts
Conditions for Availing Benefits
To avail benefits under Section 112A, taxpayers must meet specific conditions:
Payment of Securities Transaction Tax (STT): The sale of equity shares or units must be subject to STT. This tax is levied on the transaction value at the time of purchase or sale.
Holding Period Requirements: The assets must be held for more than one year to qualify as long-term. If an investor sells an asset before completing one year, it will be classified as a short-term capital gain (STCG) and taxed accordingly.
Income Tax on LTCG on shares
In India, if long-term capital gains (LTCG) on shares and equity-oriented mutual funds exceed Rs. 1 lakh in a financial year, they are subject to 10% taxation (plus surcharge and cess). The term "LTCG" refers to gains made from selling mutual funds or shares that have been held for longer than a year. In addition to the securities listed in Section 112A, other securities are taxable. The structure of a long-term capital gain tax on Indian shares and other securities is shown in the following table.
Grandfathering Clause in Section 112A
On February 1st, 2018, Section 112A was enacted to tax earnings on shares. The tax was previously not due on these profits. To safeguard investors' interests, the CBDT implemented grandfathering measures, which guarantee that the tax is solely prospective and that it is only imposed on gains as of February 1, 2018. To do this, the section 112A calculation must be used to determine the cost of acquiring the equity or equity-related securities. In summary, by altering the purchase cost to reflect the shares' acquisition date of February 1, 2018, the grandfathering clause in Section 112A exempts sales of equity shares and units of equity-oriented companies from the LTCG tax. Here are the tax implications of this clause:
To calculate the cost of acquisition (COA). use the following formula:
Value I is the Actual Selling Price less the Fair Market Value as of January 31, 2018, whichever is lower.
Value II: The greater of Value I or the actual buying price
Value II, in accordance with the grandfathering rule, will be the acquisition cost.
Sales Value - Acquisition Cost (as determined by the grandfathering rule) - Transfer Expenses equals Long Term Capital Gain (LTCG)
10% of Tax Liability (LTCG - Rs 1 lakh)
Calculation of Long-Term Capital Gains
Calculating LTCG under Section 112A involves several steps:
Determine Sale Price: Identify the selling price at which the asset was sold.
Cost of Acquisition: Determine the cost at which the asset was acquired. If purchased before February 1, 2018, use FMV as of January 31, 2018.
Expenses Related to Transfer: Deduct any expenses incurred during the transfer process (e.g., brokerage fees).
Calculate Gain: Subtract the total cost (cost of acquisition + expenses) from the sale price.
Example Calculation
Suppose an investor sells shares for ₹200 each after holding them for two years. The shares were purchased at ₹100 each before February 1, 2018:
Sale Price = ₹200
Cost of Acquisition = ₹100 (as it falls under grandfathering)
Expenses = ₹10 (brokerage fees)
Calculation:
Gain = Sale Price - (Cost + Expenses)
Gain = ₹200 - (₹100 + ₹10) = ₹90
Since this gain is below ₹1 lakh, it is exempt from tax.
Illustration of Section 112A Tax Calculation
Assume A buys shares on 1.5.17 for Rs. 15,000 and sells them on 1st February 2018 for Rs. 20,000. On 31st January, 2018, the highest price that was quoted for that security was Rs. 18000. It is best to calculate his LTCG on shares after determining the acquisition cost. The greater of –
The acquisition actually costing Rs. 15000
The lower of the FMV, which is Rs. 18,000 and the selling price of Rs. 20,000
Given that this is the higher of the real purchase cost and the lower of the FMV and sale price, the cost of acquisition should be equal to the fair market value, or Rs. 18000.
Thus, LTCG is equal to Sale Price - Acquisition Cost= Rs. (20000 – 18000)
LTCG = Rs. 2000
Tax Exemption on LTCG on Shares
Under Section 54F, individuals are eligible to get a long-term capital gain tax exemption on shares. They must fulfil the requirements listed below in order to get Section 54F benefits:
The net consideration amount earned from the sale of shares must be reinvested by the individual in no more than two real estate properties. Prior to Budget 2019, each person could only own one residential property.
Reinvestment needs to happen either two years after the sale or a year before.
A person may also choose to put their consideration money towards a building project. However, after the date of the sale or transfer of shares, such a building must be finished within three years. A person must reinvest the whole net consideration value if they wish to receive an exemption on the complete amount of capital gains. If it isn't feasible, the amount invested as a percentage of consideration will determine the capital gain exemption.
Tax Rates and Exemption Limits
Under Section 112A, long-term capital gains exceeding ₹1 lakh in a financial year are taxed at a rate of 10% without indexation benefits. Here’s how it works:
Exemption Limit: Gains up to ₹1 lakh are exempt from tax. This means that if your total LTCG in a financial year is ₹1 lakh or less, you do not have to pay any tax on those gains.
Taxable Amount: If your LTCG exceeds ₹1 lakh, only the amount above this threshold is subject to tax at 10%. For example, if you realize LTCG of ₹1.5 lakh in a financial year, you will pay tax on ₹50,000 (i.e., ₹1.5 lakh - ₹1 lakh).
Grandfathering Clause Explained
The grandfathering clause is a crucial aspect of Section 112A that protects investors from being taxed on gains accrued before February 1, 2018. Here’s how it works:
For shares purchased before February 1, 2018, the cost of acquisition is adjusted to reflect their fair market value (FMV) as of January 31, 2018. This means that any gains realized up to this date will not be taxed under Section 112A.
For instance, if an investor bought shares for ₹100 each before February 1, 2018, and sold them at ₹150 after this date, only the gains accrued after January 31, 2018 (i.e., ₹50 per share) would be taxable.
Carry Forward & Set-Off of Long-Term Capital Losses
The assessee is entitled to have the amount written off against any other income he receives under the same head if the net outcome for any assessment year is a loss other than a capital gain. In the event of capital losses, any capital gain may be offset by a short-term capital loss. Consequently, one can offset a short-term capital loss against both a long-term and short-term capital loss.
However, long-term capital gain is the only thing that can counter long-term capital loss. Currently, a 10% tax is applied to long-term capital gains arising from the transfer of equity shares listed on a recognised stock exchange. The selling of such equity shares may now result in any long-term capital losses, which may be offset against the other long-term capital gain.
A long-term capital loss is the amount lost on the sale of equity-related securities or long-term listed equity shares. Please be aware that only long-term capital gains may be deducted from long-term losses on capital gains. If an investor experiences losses on certain securities and gains on other assets, they might be offset against one another. Thus, net gains are only subject to taxation if they surpass Rs 1 lakh.
Disclosure of LTCG in ITR Filing
The Central Board of Direct Tax has revised and modified the ITR-2 and ITR-3 forms in accordance with those modifications. The provisions are as follows:
Long-term capital gains (LTCG) from the sale or transfer of shares must be disclosed by individuals and Hindu Undivided Families (HUFs) in Section B7 of the ITR-2 form, if the gains are not included under the heading "Income from Business or Profession."
Non-residents are required to report any LTCGs from the sale or transfer of shares in Sections B7 and B8 of ITR-2 and ITR-3, respectively.
Profits from the sale or transfer of equity shares must be reported under the heading "Income from business and profession" if an individual views his equity shares and equity-oriented shares as stock-in-trade. In that scenario, even if the gain exceeds Rs. 1 lakh, it will not be subject to the 10% long-term capital gain tax on shares.
Recent Budget Changes Impacting Section 112A
Tax policies are subject to change with each budget announcement. It’s essential for investors to stay updated on any amendments affecting Section 112A. Recent budgets may introduce changes in exemption limits or tax rates that could impact investment strategies.
For instance, if there are proposals to increase the exemption limit from ₹1 lakh to a higher threshold or changes in STT rates, these factors could significantly influence investment decisions and tax planning.
Practical Examples of LTCG Taxation
Here are some practical scenarios illustrating how LTCG is taxed under Section 112A:
Example Scenario 1
An investor bought shares worth ₹50,000 in January 2017 and sold them for ₹80,000 in March 2020:
Since these shares were held for over one year and sold after February 1, 2018, they qualify for LTCG.
Gain = Sale Price - Cost = ₹80,000 - ₹50,000 = ₹30,000
Since this gain is below ₹1 lakh, it is exempt from tax.
Example Scenario 2
Another investor bought units of an equity-oriented mutual fund worth ₹2 lakhs in March 2018 and sold them for ₹3 lakhs in April 2020:
Gain = Sale Price - Cost = ₹3 lakhs - ₹2 lakhs = ₹1 lakh
This gain is also exempt as it falls within the exemption limit.
Example Scenario 3
If an investor realizes gains of ₹1.5 lakhs from various transactions within a financial year:
Taxable Amount = Total Gain - Exemption Limit = ₹1.5 lakhs - ₹1 lakh = ₹50,000
Tax Payable = 10% on taxable amount = 10% * ₹50,000 = ₹5,000
Common Pitfalls When Filing Under Section 112A
Taxpayers often make mistakes when claiming benefits under Section 112A. Here are some common pitfalls to avoid:
Ignoring STT Compliance: Ensure that STT has been paid on all relevant transactions; failure to do so may lead to disqualification under this section.
Misunderstanding Holding Periods: Be clear about holding periods; assets held for less than one year do not qualify as long-term.
Incorrect Calculation: Double-check calculations related to cost and gains; errors can lead to incorrect tax filings and potential penalties.
Conclusion
The Income Tax Act's Section 112A has made major modifications to the way long-term capital gains from the transfer of equity shares and units of equity-oriented mutual funds are taxed. It is now easier for taxpayers to calculate their tax burden due to the implementation of a single tax rate for such gains and the elimination of the indexation benefit. Taxpayers should seek expert assistance to guarantee compliance with the Income Tax Act, as the tax treatment of capital gains might vary based on various circumstances, including the type of the asset.
FAQ
Q1. How do you calculate Long Term Capital Gain Tax on shares?
The sale price, acquisition cost, and any related fees must be determined before you can compute the long-term capital gains tax on shares. Take the acquisition and sale costs and deduct these from the sale price to find your capital gains. If a fiscal year's capital gains surpass one lakh rupees, the excess profits are subject to a 10% tax rate, which includes a surcharge and cess. For gains under Rs. 1 lakh, there is no tax obligation.
Q2. How can you save Long Term Capital Gain Tax on shares?
To lower the long-term capital gains tax on shares, take into account investing in tax-saving options, holding onto shares for a longer amount of time, balancing capital gains with capital losses, purchasing tax-free bonds, and utilising the indexation benefit. See a tax expert or financial advisor to determine the best course of action for your unique tax situation.
Q3. Is indexation benefit available for gains taxed under Section 112A?
No, gains subject to Section 112A tax are not eligible for the inflation-adjusted cost of acquisition benefit provided by indexation.
Q4. Do taxpayers need to file a separate return for gains taxed under Section 112A?
No, in order to claim gains subject to Section 112A tax, taxpayers do not need to submit a separate tax return. The appropriate income tax return schedules need to have the gains disclosed.
Q5. What is the difference between Section 112 and Section 112A of the Income Tax Act?
The provision for taxing long-term capital gains (LTCG) on equity shares, equity mutual funds, and business trust units on which STT is paid and listed on an acknowledged Indian stock exchange is found in Section 112A. The provision for LTCG tax on all assets, save those covered by Section 112A, is found in Section 112.
Q6. What is the difference between Section 111A and Section 112A of the Income Tax Act?
Short-Term Capital Gains (STCG) are covered under Section 111A. For long-term capital gains, see Section 112A (LTCG). The maximum amount of gain that is free from LTCG under section 112A of the Income Tax Act is Rs 1 lakh. If the gain exceeds this amount, only a 10% tax rate will be imposed.
Q7. How is the FMV of the shares determined?
On January 31, 2018, the FMV will be the highest price of that share or unit quoted on a recognised stock market. The fair market value, however, will be the highest price quoted on a day that is immediately before January 31, 2018, on which it has been traded, if there is no trading on that day. If a unit is not listed, its fair market value will be its net asset value as of January 31, 2018, rather than its listed value.
Q8. Is TDS deductible when a non-resident taxpayer makes capital gains?
If an LTCG payment is sent to a non-resident, 10% of the payment must be withheld for taxes. The computation of capital gains must follow section 115AD, which specifies that tax would only be applied at the rate of 10% to gains exceeding Rs. 1 lakh.
Q9. What qualifies as long-term capital gains under Section 112A?
Long-term capital gains arise from selling listed equity shares or units of equity-oriented mutual funds held for more than one year.
Q10. How does STT affect my tax liability?
Payment of STT is mandatory for availing benefits under Section 112A; failure to pay STT disqualifies you from claiming LTCG benefits.
Q11. Can I offset my long-term capital losses against my long-term capital gains?
Yes, long-term capital losses can be set off against long-term capital gains under Section 112A.
Q12. Is there any specific documentation required when filing LTCG?
Maintain records such as purchase invoices, sale statements, and proof of STT payment when filing your returns.
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