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A guide to Capital gains and its tax implications

Capital Gains

An individual invests in different types of assets like mutual funds, shares. The capital gain or loss arises when an asset is sold. In this article,  we will cover capital gains and it’s the tax treatment for different assets.

What is a capital gain?

Any gain arising on transfer of the capital asset is taxed as capital gain under the income-tax act. Such gains will be taxed in the year in which the transfer took place and will form part of the ‘income’ for that year.

Transfer means sale or exchange of the asset, conversion of a capital asset into stock-in-trade, the redemption of zero-coupon bonds, etc.

Definition of the capital asset

Personal effects do not include jewellery, archaeological collections, drawings, paintings which means when the mentioned assets are sold, the capital gain tax will be applicable.

What is the holding period and why is it important?

The holding period of any asset is the duration for which the asset is held by the person owning the asset. It is the time difference between the purchase and the sale of the asset.

The holding period of an asset is important because the type of capital gain or loss is dependent on it. Based on the holding period, an asset will have long term capital gain or short term capital gain. The rate of tax and treatment is different for both the type of gains.

Holding period for various mutual funds and shares

Below is a table showing the type of capital gain based on holding period of various mutual funds and shares.

Capital Asset STCG LTCG
Equity shares listed in a recognized stock exchange
Units of an equity-oriented fund
Units of Unit Trust of India
If held <= 12 months If held >= 12 months
Unlisted equity shares If held <= 24 months If held >= 24 months
Unit of Debt oriented Fund
Unlisted securities(other than shares)
Other capital assets
If held <= 36 months If held >= 36 months
Balanced Funds (equity-oriented) If held <= 12 months If held >= 12 months
Balanced Funds (debt-oriented) If held <= 36 months If held >= 36 months
Hybrid Mutual (equity exposure more than 65% of total investment) If held <= 12 months If held >= 12 months
Hybrid Mutual (equity exposure less than 65% of total investment) If held <= 36 months If held >= 36 months

Capital Gain tax implication on mutual funds

Equity oriented mutual funds

Short Term Capital Gain 

Any STCG, arising on sale of equity-oriented mutual funds, will be taxed @15%, provided securities transaction tax has been paid on such a sale.

Long Term Capital Gain

Any LTCG, exceeding Rs 1,00,000, arising on sale of equity-oriented mutual funds, will be liable to tax @10% provided securities transaction tax has been paid on the purchase and sale of the equity-oriented mutual fund.

Any LTCG, below Rs 100,000 arising on sale is tax-free.

Securities transaction tax(STT) is levied on purchase or sale of securities which includes units of an equity-oriented mutual fund.

Debt oriented mutual funds

Short Term Capital Gain

Any STCG, arising on transfer of debt-oriented mutual funds, will be tax slab rates applicable to the individual. The gain will be added to the total income.

Long Term Capital Gain

Any long-term capital gain, arising on transfer of debt-oriented mutual funds, will be liable to tax @20% with indexation benefit.

Indexation is used to adjust the purchase price of an investment to reflect the effect of inflation on it. It increases the purchase price of the asset which will eventually lead to lower profits hence bringing down your taxable income.

Systematic Investment Plan(SIP)

SIP’s are taxed differently as compared to the above-mentioned method. If you think of it, SIP’s are nothing but just a different way of investing in mutual funds. It allows a person to invest small or large depending on their financial capability and gives them the flexibility to choose the tenure of the investments.

When it comes to taxability of SIP, each investment made (say monthly) will be treated as a new investment and the period of holding will be counted from the date of the investment for computation of capital gain.

So, in a case where you have made a SIP of say Rs. 5000 per month, only the gains which have been earned on the investments made a year ago will be tax-free

Equity Shares

In budget 2018, section 112A was introduced which provides for taxation of gains arising on transfer of equity shares at a concessional rate of 10% on the gains exceeding Rs. 1 lac without the benefit of indexation.

The provisions of this section are applicable from the financial year(FY) 2018-19 i.e assessment year (AY) 2019-20.

How to compute capital gain on shares & mutual funds?

Basic Concepts

Cost of acquisition – The value at which the shares are purchased by the acquirer.

Net sale consideration – The consideration received as a result of the transfer of the shares minus the expenses incurred like a brokerage.

Computation of short term capital gains

Amit bought 200 shares of Reliance Industries Limited in December 2019 at a cost of Rs. 1300 per share and sells the same in January 2020 for Rs. 1500. He did this transaction through a broker who charged a commission of Rs. 30. The capital gain on the sale of the shares will be calculated as below :

Particulars Amount
The full value of the consideration received (200 shares @1500 per share) Rs 3,00,000
Less: expenditure incurred in connection with such sale (brokerage) Rs 30
Net sale consideration (A) Rs 2,99,970
Less: cost of acquisition (200 shares @1300 per share) (B) Rs 2,60,000
Short-term capital gain(C=A-B) Rs 39,270
Period of holding 1 month
Rate of tax 15%
Tax payable Rs 39,270 * 15%
= Rs 5891

Computation of long term capital gains

Suppose Amit had invested in debt-oriented mutual funds in April 2016 and the investment amount was Rs. 1,00,000 at a NAV of Rs. 10 and decided to redeem the same in July 2019 say at a NAV of Rs. 20

In the above case, the gains arising from the sale will be considered as long term capital gain and the benefit of indexation will be allowed which computing the capital gain.

Here’s how the calculation would be made in such a case:

Particulars Amount
The full value of the consideration received (10,000 units @ Rs 20) Rs 2,00,000
Sale consideration(A) Rs 2,00,000
Less: Indexed cost of acquisition Rs 1,09,470
Long-term capital gain(C=A-B) Rs 90,530
Period of holding More than 36 months
Rate of tax 20%
Tax payable Rs 90,530 * 20%
= Rs 18,107

Indexed cost of acquisition will be calculated as below :

Cost of acquisition * (CII of the year in which share is sold/CII of the year in which share is purchased)

= (Rs 1,00,000)*(289/264)
= Rs 1,09,470

Indexed cost is arrived at when the price is adjusted against the rise in inflation in the asset’s value. For calculating the indexed cost of acquisition, we use the CII notified by the Income Tax Act, 1961.

Published on February 4, 2020