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Mastering Capital Gains Tax in India: Your Ultimate Guide to Financial Empowerment
A comprehensive guide on Capital Gains Tax in India – your go-to resource for the complexities surrounding the taxation of profits earned from selling capital assets. If the mere thought of capital gains tax leaves you with questions and uncertainties, you're not alone. We understand the concerns that arise when parting with your property or shares and want to provide you with clarity and confidence in navigating this crucial aspect of financial transactions.
In this comprehensive guide, Our objective is to equip you with the knowledge needed not only to adhere to tax regulations but also to strategically optimise your financial choices. Our aim is to empower you through understanding, ensuring that you navigate the intricacies of capital gains tax with confidence and make informed decisions about your finances.
Contents :-
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What is a Capital gain tax in India?
In simple words, a capital gain occurs when you make a profit by selling something valuable, like property or investments. For instance, if you purchased stocks or a house and later sell them at a higher price, the profit you make is called a capital gain. On the other hand, if you sell for less than what you paid, it results in a capital loss. The tax you pay on the profit earned from these sales is known as capital gains tax. Understanding these gains is essential for anyone involved in buying and selling assets, as it affects your overall financial situation.
What are Capital Assets?
Capital assets are properties that an individual or entity owns and can be transferred. The list includes a variety of assets such as land, buildings, shares, patents, trademarks, jewellery, leasehold rights, machinery, vehicles, and more.
However, there are certain items that do not fall under the category of capital assets. These include:
1. Stock of Consumables or Raw Materials:
These are materials held for use in a business or profession and are not considered capital assets.
2. Personal Belongings:
Items meant for personal use, such as clothes and furniture, are not classified as capital assets.
3. Agricultural Land in Rural Areas:
A piece of agricultural land located in a rural area is excluded from the definition of capital assets.
4. Special Bearer Bonds and Gold Bonds:
Certain government-issued bonds, such as special bearer bonds, 6.5% gold bonds (1977), 7% gold bonds (1980), or national defence gold bonds (1980), are not treated as capital assets.
5. Gold Deposit Bond and Deposit Certificate:
Gold deposit bonds issued under the Gold Deposit Scheme or deposit certificates issued under the Gold Monetisation Scheme, 2015, as notified by the Central Government, are also not considered capital assets.
What are the types of capital assets?
Capital assets can be broadly categorised into two types based on the duration for which they are held: short-term capital assets and long-term capital assets.
Short-term capital assets
Short-term capital assets refer to assets held for a duration of 36 months or less. Selling the asset within this timeframe classifies it as a short-term capital asset. However, certain exceptions apply, reducing the holding period to 24 months or 12 months.
For immovable properties like land, buildings, or houses, the holding period is 24 months. Selling such property within 24 months deems it a short-term capital asset.
Equity shares of a company listed on a Recognized Stock Exchange, securities listed on a Recognized Stock Exchange, UTI units, equity-oriented mutual fund units, and zero-coupon bonds have a reduced holding period of 12 months. Selling these assets within 12 months categorises them as short-term capital assets.
Long-term capital assets
Long-term capital assets, on the other hand, are held for more than 36 months before being sold. Immovable property sold after 24 months is considered a long-term capital asset. For equity shares, securities, mutual fund units, etc., the holding period of 12 months applies, and selling them after this period classifies them as long-term capital assets.
What are the types of capital gains?
Capital gains can be categorised into two main types based on the asset's holding period: short-term capital gains and long-term capital gains.
Short-Term Capital Gain:
Short-term capital gains (STCG) represent the profits generated from the sale of capital assets held for one year or less, with the specific holding period depending on the nature of the asset.
If the security transaction tax is applicable, the short-term capital gain tax is fixed at 15%. When the security transaction tax is not applicable, the calculation of short-term capital gain tax relies on the taxpayer's income. This tax is automatically included in the taxpayer's Income Tax Return (ITR) and is charged at the standard slab rates.
Long-Term Capital Gain:
Long-term capital gains (LTCG) are the profits acquired from selling capital assets held for more than one year. The holding period required to classify an asset as long-term varies based on the nature of the asset.
For most assets, the long-term capital gain tax is set at 20%, excluding equity shares and units of equity-oriented funds. On the sale of equity shares and units of equity-oriented funds, a 10% long-term capital gains tax applies for amounts exceeding Rs 1 lakh.
These distinctions in capital gains taxes reflect the government's approach to incentivising long-term investments and regulating the taxation of short-term gains differently.
How is Capital Gain calculated?
The calculation of capital gains is contingent on the type of gain—whether short-term or long-term. However, before delving into these calculations, it's crucial to grasp the concept of the full value of consideration, as it forms the foundation for computing capital gains.
Full Value Consideration:
The full value of consideration refers to the money received upon transferring a capital asset. Technically, it represents the consideration received or anticipated by the seller in exchange for relinquishing the capital asset.
Apart from the full value consideration, two other pivotal terms come into play:
Cost of Acquisition:
The cost of acquisition is the initial cost price of the asset, representing the amount at which the capital asset was purchased.
Cost of Improvement: The cost of improvement involves expenditures made to enhance the capital asset. This cost is added to the cost of acquisition for computing capital gains. However, if the improvement cost is incurred before April 1, 2001, it is not included in the acquisition cost.
How to calculate the short Term capital gains?
Short-term capital gains Calculations
Full value of consideration | xxxx |
|---|---|
Less: expenses incurred on transferring the asset | (xx) |
Less: cost of acquisition | (xx) |
Less: cost of the improvement | (xx) |
Short-term capital gains | xx |
Example of Short-Term Capital Gain and Its Calculation:
Let's consider a scenario where Mr. Patel, an individual taxpayer, sells a piece of land within one year of acquiring it. The relevant details for the transaction are as follows:
1. Full Value Consideration (FVC): Mr. Patel sells the land for Rs. 1,00,000.
2. Cost of Acquisition (COA): He originally purchased the land for Rs. 80,000.
Cost of Improvement (COI): No additional expenses were incurred for improving the land.
Now, let's calculate the Short-Term Capital Gain using the formula:
Short-Term Capital Gain = Full Value Consideration - (Cost of Acquisition + Cost of Improvement)
Short-Term Capital Gain = Rs. 1,00,000 - (Rs. 80,000 + Rs. 0)
Short-Term Capital Gain = Rs. 1,00,000 - Rs. 80,000
Short-Term Capital Gain = Rs. 20,000
In this example, Mr. Patel has a Short-Term Capital Gain of Rs. 20,000 from the sale of the land. If the transaction attracts the short-term capital gains tax rate of 15%, Mr Patel would be liable to pay tax on Rs. 20,000 at this rate. The actual tax payable would be calculated based on his total income and the applicable slab rates.
How to calculate the Long Term capital gains?
Full value of consideration | xxxxx |
|---|---|
Less: expenses incurred in transferring the asset | (xxxx) |
Less: indexed cost of acquisition* | (xxxx) |
Less: indexed cost of the improvement* | (xxxx) |
Less: expenses allowed to be deducted from the full value of the consideration | (xxxx) |
Less: exemptions available under Section 54, 54EC, 54B and 54F, etc., if any | (xxxx) |
Long term capital gains | xxxxx |
Indexation of costs is a process employed to adjust for inflation over the years during which a capital asset is held. In light of the diminishing value of money due to inflation, indexation is applied to the acquisition and improvement costs, resulting in an upward adjustment of these expenses. This adjustment serves to mitigate the impact of inflation and, consequently, reduces the calculated capital gain.
To implement indexation, the Cost Inflation Index (CII) comes into play, considering the inflation experienced throughout the asset's holding period. The calculation of indexed costs involves the application of the following formula:
Indexed cost of the Acquisition =
cost of acquisition X CII of the year the asset is being transferred
一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一
CII of the year in which the asset is acquired or CII 2001-02 (whichever is later)
Indexed cost of the improvement=
cost of the improvement X CII of the year the asset is being transferred
一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一一
CII of the year in which the expenses were incurred on asset
Indexation of cost
The Cost Inflation Index (CII) for various years, as established by the Central Government, is as follows –
Financial year | Cost Inflation Index (CII) |
|---|---|
2001-02 | 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 |
2020-2021 | 301 |
2021-2022 | 317 |
2022-2023 | 331 |
Expenses allowed as deduction from full Consideration of sale of an asset
Deductible expenses from the full value of consideration are those deemed essential in the process of selling the asset, without which the acquisition of the asset would not have been feasible. These necessary and mandatory expenses can be subtracted from the full value of consideration, thereby reducing the selling price, increasing the cost of acquisition, and consequently lowering the capital gain. The allowable deductions vary based on the nature of the asset:
For House Property:
Stamp paper cost
Brokerage or commission paid to a broker for facilitating the sale
Traveling expenses incurred during the sale of the property
Expenses related to obtaining succession certificates, payments to the executor of the Will, and other legal procedures in the case of property acquired through a Will or inheritance
For Shares:
Commission paid to the broker for selling the shares
Brokerage or commission paid to a broker for arranging a buyer
For Jewellery:
Commission paid to the broker for arranging a buyer for the jewellery
Capital Gain Tax in India
Having delved into the calculations of short-term and long-term capital gains, it's crucial to comprehend the taxation framework for capital gains in India.
Short-Term Capital Gains Tax (STCG Tax):
If Securities Transaction Tax (STT) is not applicable on short-term capital gains, they are taxed at your applicable income tax slab rate. In such instances, the gains are integrated into your taxable income and subjected to taxation according to the applicable slab rate. However, for equity shares where STT is applicable, short-term capital gains are taxed at a fixed rate of 15%.
Long-Term Capital Gains Tax (LTCG Tax):
Long-term capital gains are taxed at a flat rate of 20%. Despite the uniformity in tax rates for STCG and LTCG, there are distinctions in the taxation of equity and debt Fund investments:
For Jewellery:
Commission paid to the broker for arranging a buyer for the jewellery
For Equity Funds (where 65% or more investments are made in equity):
15% for STCG and 10% for LTCG if the gain exceeds INR 1 lakh in a financial year.
For Debt Funds (65% or more investmentsare made in debt): STCG is taxed at the income tax slab rate, while LTCG is taxed at 20% with the benefit of indexation.
Surcharge on Long-Term Capital Assets:
The surcharge on long-term capital gains for listed equity shares, units, etc., is capped at 15%. For other long-term capital assets, the surcharge is upto to 37%.
Exemption on Capital Gain
Understanding capital gains tax and exploring avenues for tax savings becomes crucial due to its impact on earnings. To aid individuals in minimizing their tax liability, the government offers various exemptions known as capital gains exemptions. Let's delve into some of these exemptions:
Exemption Under Section 54: Sale of House Property on Purchase of Another House Property
Section 54 of the Income Tax Act in India provides a valuable exemption for individuals selling a house property and using the proceeds to purchase another residential property. This exemption aims to encourage investment in residential properties and offers relief from capital gains tax. Here are the key details of this exemption:
Applicability:
-
The exemption is available to individual taxpayers.
-
It is applicable when the sale of a residential property results in capital gains.
Conditions for Exemption:
-
The exemption is available once in a taxpayer's lifetime.
-
The capital gains from the sale of the original property must not exceed Rs. 2 crores.
-
The entire sale consideration, not just the capital gains, must be invested in the purchase of one or two residential properties.
Timeline for Investment:
-
The exemption is available once in a taxpayer's lifetime.
-
The capital gains from the sale of the original property must not exceed Rs. 2 crores.
-
The entire sale consideration, not just the capital gains, must be invested in the purchase of one or two residential properties.
Exemption Calculation:
-
The exemption will be limited to the total capital gain if the purchase price of the new property is higher than the capital gains.
Revocation of Exemption:
-
If the new property is sold within three years of its purchase or completion of construction, the exemption can be revoked.
Section 54 provides a beneficial exemption for individuals selling a residential property and reinvesting the proceeds in another residential property. By meeting the specified conditions and timelines, taxpayers can avail themselves of this exemption and reduce their capital gains tax liability.
Exemption Under Section 54B: Transfer of Land Used for Agricultural Purposes
Section 54B of the Income Tax Act in India provides an exemption for individuals who earn capital gains from the transfer of land used for agricultural purposes. This exemption aims to support individuals engaged in agricultural activities and encourages the continuity of such activities. Here are the key details of this exemption:
Applicability:
-
The exemption is applicable to individuals, including the individual's parents or a Hindu Undivided Family (HUF).
-
It applies to both short-term and long-term capital gains from the transfer of agricultural land.
Conditions for Exemption:
-
The land being transferred must have been used for agricultural purposes by the individual, their parents, or the HUF for a period of two years immediately preceding the date of transfer.
-
The exempt amount is the lesser of the investment made in a new agricultural land or the capital gain.
Timeline for Investment:
-
The individual must reinvest in a new agricultural land within two years from the date of the transfer of the original land.
-
If the reinvestment is not possible before the due date for filing the income tax return, the capital gains amount must be deposited in any branch (except rural branches) of a public sector bank or IDBI Bank before the due date.
Additional Conditions:
-
The new agricultural land purchased to claim the exemption should not be sold within three years from the date of its purchase.
-
If the amount deposited under the Capital Gains Account Scheme is not used to purchase agricultural land, it should be treated as capital gains in the year when the two-year period from the date of sale elapses.
Exemption Under Sections 54 E, 54EA, and 54EB – Profits from Investments in Certain Securities
Sections 54 E, 54EA, and 54EB of the Income Tax Act in India provide exemptions for individuals who earn profits from the transfer of certain securities. These exemptions aim to encourage investment in specified financial instruments and provide relief from capital gains tax. Here are the key details of these exemptions:
Section 54 E: Exemption for Profits from Investments in Specified Assets:
-
This section provides an exemption for capital gains arising from the transfer of a long-term capital asset if the amount of capital gains is invested in specified assets.
-
The specified assets include units of the Rural Electrification Corporation (REC) or the National Highways Authority of India (NHAI).
-
The investment must be made within six months from the date of transfer.
-
If the specified assets are transferred or converted into money within three years, the capital gains tax exemption will be revoked.
Section 54EA: Exemption for Profits from Transfer of Long-Term Capital Assets:
-
This section is specifically applicable to profits earned from the transfer of long-term capital assets.
-
Individuals must invest the capital gains amount in specified assets such as bonds of the National Highways Authority of India (NHAI) or Rural Electrification Corporation (REC) within six months from the date of transfer.
-
If the specified assets are transferred or converted into money within three years, the capital gains tax exemption will be revoked.
Section 54EB: Exemption for Investment in Units of a Fund:
-
This section provides an exemption for capital gains arising from the transfer of a long-term capital asset.
-
The investment should be made in units of specified funds, such as the specified fund referred to in the Section or any other fund notified by the Central Government.
-
The investment must be made within six months from the date of transfer.
-
If the units are transferred or converted into money within three years, the capital gains tax exemption will be revoked.
It's crucial for individuals looking to avail themselves of these exemptions to adhere to the specified timelines and conditions. Seeking professional advice can help ensure proper compliance with the regulations and optimize the benefits of these sections.
Frequently asked questions
Q
What Constitutes Capital Gains?
A
Capital gains arise from the sale or transfer of capital assets, such as real estate, stocks, or investments, resulting in a financial gain.
Q
How is Capital Gains Taxed?
A
Capital gains are subject to taxation, with rates varying based on the holding period of the asset. Short-term gains are taxed at income slab rates, while long-term gains have specific tax rates.
Q
What Differentiates Short-Term and Long-Term Capital Gains?
A
The key difference lies in the holding period. Assets held for one year or less generate short-term gains, while those held for more than one year yield long-term gains.
Q
Are There Exemptions Available for Capital Gains?
A
Yes, exemptions exist under various sections of the Income Tax Act, such as Section 54 for property sales and Section 54EC for specific investments, providing relief from capital gains tax.
Q
How Does Indexation Impact Capital Gains Taxation?
A
Indexation adjusts the purchase price of an asset for inflation, reducing the taxable capital gain. The Cost Inflation Index (CII) is applied to compute indexed gains.
Q
Can Capital Losses Offset Capital Gains?
A
Yes, capital losses can be set off against capital gains. Short-term losses can offset both short-term and long-term gains, while long-term losses can offset only long-term gains.
Q
What Role Do Securities Play in Capital Gains Tax?
A
Gains from the sale of equity shares may be exempt from tax if Securities Transaction Tax (STT) is paid. Specific exemptions exist for reinvestment in specified securities under sections like 54EC.
Q
What is the Holding Period Significance in Capital Gains?
A
The holding period determines whether gains are short-term or long-term. It impacts the applicable tax rates and eligibility for certain exemptions.
Q
Are There Any Time Constraints for Availing Exemptions on Capital Gains?
A
Yes, specific timeframes exist for availing exemptions. For instance, under Section 54, if capital gains are to be exempted on the purchase of a new property, the acquisition must occur within a specified timeframe.
Q
How Can Individuals Optimize Tax Planning for Capital Gains?
A
Individuals can optimise tax planning by understanding the available exemptions, considering the holding period, and exploring investment options that offer tax benefits on capital gains.
Prachi Jain
Chartered Accountant
Prachi Jain is a Chartered Accountant with a passion for simplifying finance and tax-related matters through her insightful and informative blogs. With a background in finance and a deep understanding of tax regulations, Prachi has established herself as a trusted source of financial wisdom. Prachi is committed to empowering her readers with the knowledge they need to make informed financial decisions. Her expertise and dedication shine through in every blog post, helping her audience navigate the intricacies of finance and taxes with confidence. Follow Prachi Jain's blog for practical insights and guidance on managing your finances effectively.
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