Understanding the Cost Inflation Index and Its Related Announcements
Updated: Oct 15
In a recent announcement, the Central Board of Direct Taxes (CBDT) declared that the 'Cost Inflation Index (CII)' for the Financial Year 2023-24 (Assessment Year 2024-25) will stand at 348.
This marks a significant increase from the previous year's CII of 331. The Cost Inflation Index plays a crucial role in the computation of 'long-term capital gains (LTCG)' under the Income Tax provisions.
Every year, the CBDT introduces a fresh CII value, taking the base year 2001-02 as equivalent to 100. This update is essential for taxpayers as it impacts their long-term capital gains calculations, influencing their tax liability in the process.
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Budget 2024 Update
As of July 23, 2024, the government has discontinued the indexation benefit on long-term capital gains. This means that investors can no longer adjust the purchase price of their investments for inflation when calculating capital gains for tax purposes. Consequently, long-term capital gains will be computed based on the actual purchase price, potentially resulting in higher taxable gains and, therefore, a higher tax liability for investors. However, in case of transfer of land or building acquired before July 23, 2024, taxpayers have the option to pay tax at either a rate of 12.5% without indexation benefits or 20% with indexation benefits. However, on land or building purchased on or after 23rd July, 2024, the tax rate will be 12.5% without indexation benefit, applicable to assets qualified as long term.
What is Cost Inflation Index?
A Cost Inflation Index table is used to calculate the long-term capital gains from a capital asset transfer or sale. The profit earned through the sale or transfer of any capital asset, such as land, property, stocks, shares, trademarks, patents, and so on, is referred to as capital gain.
Long-term capital assets are typically documented in books at their cost price. As a result, despite growing asset prices, these capital assets cannot be revalued.
When these assets are sold, the profit or gain obtained from them remains high due to their high sale price in relation to their acquisition price. As a result, assessees must pay a greater income tax on these assets' gains.
In the long run, the application of the Cost Inflation Index for capital gain adjusts the purchase price of assets based on their sale price, resulting in smaller earnings and a lower tax amount.
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Cost Inflation Index Table (FY 2001-02 to FY 2024-25)
Financial Year | Cost Inflation Index (CII) |
2001-02 (Base year) | 100 |
2002-03 | 105 |
2003-04 | 109 |
2004-05 | 113 |
2005-06 | 117 |
2006-07 | 122 |
2007-08 | 129 |
2008-09 | 137 |
2009-10 | 148 |
2010-11 | 167 |
2011-12 | 184 |
2012-13 | 200 |
2013-14 | 220 |
2014-15 | 240 |
2015-16 | 254 |
2016-17 | 264 |
2017-18 | 272 |
2018-19 | 280 |
2019-20 | 289 |
2020-21 | 301 |
2021-22 | 317 |
2022-23 | 331 |
2023-24 | 348 |
2024-25 | 363 |
Understanding cost inflation index for long-term capital gains
1) Long-term capital gains pertain to profits obtained from selling assets owned for more than three years, signifying successful transactions in the financial domain.
2) Calculating the tax burden on long-term capital gains necessitates adjusting the asset's initial purchase cost and any subsequent improvements to account for inflation.
3) The Cost Inflation Index (CII) assumes a vital role in facilitating this significant inflation adjustment, providing a standardized approach to calculating taxes accurately.
4) Furthermore, the government relies on the CII for periodic inflation calculations, contributing to diverse economic evaluations and assessments.
5) By incorporating the Cost Inflation Index, taxpayers gain confidence in ensuring precise and appropriate tax payments on their long-term capital gains.
The Central Board of Direct Taxes a few days ago notified the new Cost Inflation Index (CII) for the Financial year 2023-24 and Assessment Year 2024-25. The latest CII stands at 348, which promises to impact long-term capital gains calculations. This update aims at ensuring precise and appropriate tax payments on their capital gains.
Use of Cost Inflation Index in Income Tax
Long-term capital assets are valued at their cost. They cannot be revalued; they exist at cost price notwithstanding rising inflation. Because the sale price of these assets is larger than the acquisition price, the profit margin is still large when they are sold. Moreover, this raises income taxes. The cost inflation index applies to long-term capital assets, which benefits taxpayers by increasing the purchase price and lowering taxes and earnings. For the benefit of taxpayers, the cost inflation index benefit is applied to long-term capital assets; consequently, purchase costs increase, reducing profits and tax revenues.
Illustrations:
Illustration 1: A paid Rs. 10,000,000.00 for a flat in FY 2001–02. During FY 2017–18, he sells the flat. In this instance, the CII is 100 for the years 2001–02 and 2017–18, and 272 for the latter. Therefore, the indexed cost of acquisition is equal to Rs. 27,20,000 (10,000 x 272/100).
Illustration 2: On March 1, 2015, B paid Rs. 1,00,000 for equity shares, which it would sell on April 1, 2020. CII is 240 for the purchase year FY 2014–15 and 301 for the sale year 2020–21. Thus, Rs. 1,00,000 x 301/240 = Rs. 1,25,416 is the indexed cost of acquisition.
Illustration 3: For Rs. 2,00,000, C acquired a capital asset in the fiscal year 1995–1996. On April 1, 2001, the capital asset's fair market value was Rs. 3,20,000. During FY 2016–17, she sells the asset. In this case, the asset was bought ahead of the base year. As a result, the acquisition cost is equal to the higher of the FMV or actual cost as of April 1, 2001. i.e. Rs. 3,20,000 is the purchasing cost. CII for the year 2001-02 and 2016-17 is 100 and 264 respectively. The indexed acquisition cost is 3,20,000 x 264/100, or 8,44,800 rupees.
Illustration 4: D paid Rs 20 lakhs for a property in December 2012. August 2023 saw the sale of the home. For the purchase year FY 2012–13, the CII is 200 and for the fiscal year 2023–2024 is 348. Hence, Rs. 20,00,00 x 348/200 = Rs. 34,80,000 is the indexed cost
Illustration 5: E paid Rs 2,00,000 for Sovereign Gold Bonds (SGB) in November 2015. In January 2021, the Bonds were prematurely withdrawn at the current market price of Rs 2,55,000, having been issued five years earlier than their maturity date. CII is 254 for the purchase year FY 2015–16 and 301 for the redemption year FY 2020–21. Hence, Rs. 2,00,000 x 301/254 = Rs. 2,37,007 is the indexed cost of acquisition.
The following table shows the tax on LTCG for a property purchased at Rs. 2,00,000 in June 2001 and sold for Rs. 10,00,000 during FY 2024-25. As per Budget 2024, here is the calculation of LTCG both with and without indexation benefit:
Particulars | With Indexation benefit | Without Indexation benefit |
Sale Consideration | 10,00,000 | 10,00,000 |
Minus: Cost of acquisition | 7,26,000 (2,00,000*363/100) | 2,00,000 |
LTCG | 2,74,000 | 8,00,000 |
Tax on LTCG at 20% | 54,800 | - |
Tax on LTCG at 12.5% | - | 1,00,000 |
Navigating Capital Gains due to cost inflation index
Understanding Short-Term and Long-Term Implications
When it comes to capital gains and losses, the duration of asset ownership, also referred to as the holding period, holds significant importance. Profits derived from selling assets held for one year or less fall under the category of short-term capital gains, while gains from assets held for over a year are termed long-term capital gains.
Diverse rules and varying tax rates are typically applied to short-term and long-term capital gains, resulting in lower tax payments for long-term gains. Similarly, capital losses are classified as short-term or long-term based on the same criteria, making it crucial for taxpayers to comprehend the implications of their investment durations.
The base year holds a crucial role in the calculation of the Cost Inflation Index (CII) as it serves as the reference point for determining the index values in subsequent years. This standardized starting point enables an accurate accounting of inflation's impact on the acquisition cost of assets.
Changes to the base year can have a substantial impact on the computation of the Cost Inflation Index. For instance, when India shifted its base year from 1981 to 2001, the CII for the financial year 2001-02 was set to 100. Consequently, the indexed acquisition cost for assets purchased before 2001 would be calculated differently, potentially leading to alterations in capital gains tax liabilities.
The selection of the base year is crucial in maintaining consistency and precision in calculating the Cost Inflation Index. A well-chosen base year ensures that the index appropriately reflects the real impact of inflation over time, allowing taxpayers to accurately calculate their capital gains and mitigate unnecessary tax liabilities.
As the base year establishes the foundation for subsequent CII values, its accuracy is paramount to providing reliable tax planning and investment decision-making tools for individuals and businesses alike.
FAQs:
Q1. How does the Cost Inflation Index (CII) influence income tax calculations and provide benefits to taxpayers in India?
The Cost Inflation Index (CII) holds significant importance in income tax calculations as it serves as a crucial measure to gauge the yearly escalation in the costs of various goods and services due to inflation. This index is utilized to determine the inflation-adjusted value of assets for each financial year, ensuring that the impact of inflation is accurately accounted for in tax computations.
When taxpayers earn capital gains from the sale of assets, the CII comes into play to provide indexation benefits. By applying the relevant CII number to the original acquisition cost of an asset, the adjusted cost (inflation-adjusted) is derived, effectively reducing the tax liability on capital gains. This indexation benefit allows taxpayers to factor in the effects of inflation, thus ensuring a fair and accurate assessment of their tax obligations.
Q2. Could you throw some light on the base year for calculating the Cost Inflation Index (CII) in India?
The base year used for computing the Cost Inflation Index (CII) in India was changed by the CBDT from 1981 to 2001. As a result, the CII for the financial year 2001-02 is considered 100, and the indices for subsequent years are calculated in relation to this base year.
Q3. What are the documents that should be enclosed along with the income tax return?
No attachments are necessary to be submitted with the income tax return. However, it is vital to retain all relevant documents for future reference in case they are required by competent authorities.
Q4. Do I need to declare all my income in the return, even if some of it is exempt?
Absolutely, all sources of income, including exempt income, must be disclosed in the return. You can report exempt income under Schedule EI for complete and accurate tax filing.
Q5. Why is cost inflation index calculated?
The purpose of the Cost Inflation Index is to adjust prices to reflect the rate of inflation. Put simply, prices will rise in response to a gradual increase in the rate of inflation.
Q6. Who notifies the cost inflation index?
The cost inflation index is determined by the Central Government and is published in the official gazette.
Cost Inflation Index = 75% of the average rise in the Consumer Price Index (urban) for the preceding year.
Q7. Why is the base year of CII changed to 2001 from 1981?
At first, 1981–1982 was regarded as the base year. However, taxpayers were having trouble getting the properties they had bought before April 1, 1981, evaluated. Additionally, tax officials were having trouble trusting the valuation reports. To facilitate swift and precise appraisals, the government chose to move the base year to 2001. Therefore, taxpayers can claim the advantage of indexation and use the higher actual cost or fair market value as of April 1, 2001, as the purchase price for a capital item acquired prior to that date.
Q8. Does the application of CII reduce the tax liability?
Because long-term capital assets are revalued in accordance with the CII of the relevant year, which lowers the profit on asset sale and tax liability, it significantly lowers the tax liability.
Q9. What is the CII for FY 2023-24?
The CII for FY 2023-24 is 348.
Q10. What is the cost inflation index for 2024-25?
The CII has gone up to 363 for 2024-25.
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