Capital Gains Tax – A fact check

Long Term capital gains tax is in the news. Apparently, there were some rumours which possibly also led the markets downhill.

For those not so familiar with the subject, here’s a quick primer and update on capital gains tax. 

Let’s first understand what is a capital gain.

A capital gain is a realised profit on sale of assets such as land, building, precious metals (gold), stocks, mutual funds, etc. Note, the gain has to be realised after sale of asset.

As per the current status of tax laws in India, this is how capital gains tax is charged.

#1 For Listed Shares & Equity Mutual Funds – If you sell through recognised stock exchanges such as BSE or NSE, the taxation is as follows:

• Short Term Capital Gains – If you sell within 1 year of purchase, you pay tax on the gains at the flat rate of 15%.

For example, you purchased a mutual fund for Rs. 100 on Jan 1, 2016. You then sold it for Rs. 110 on Dec 22, 2016. Since you sold it in less than 1 year of purchase, short term capital gains tax applies. You pay 15% of Rs. 10 (the gain), that is, Rs. 1.5 as tax. (plus any surcharge or cess)

• Long Term Capital Gains – If you sell after 1 year of purchase, you pay zero tax on gains.

Continuing the above example, if you sell the above mutual fund after Jan 1, 2017, you would pay zero tax on capital gains.

However, STT or securities transaction tax is levied on sale / purchase of these stocks or mutual funds. The STT rates are as follows:

#2 For unlisted stocks, debt mutual funds, real estate, precious metals such as gold, the time period that divides short and long term is 3 years. This is how the capital gains taxation works.

• Short Term Capital Gains – If you sell your asset in this category within 3 years of purchase, then you pay tax on the gains at the rate of your income tax bracket.
• Long Term Capital Gains – If you sell the asset after 3 years, long term capital gains tax applies. The applicable rate of tax is 20% on long term capital gains. However, you also get the benefit to index the cost of your purchase to calculate these capital gains. You can increase the cost of the asset using the Cost Inflation Index as provided by the Income Tax Department. This effectively reduces the total gain.

Set off capital gains with losses and thus pay NO tax

You can set off capital loss against gains and reduce your tax liability. This is how it works.

If in a particular financial year, you have long term capital gains on one asset and long term capital loss on another asset that you sold, then you can set this loss against the gain. This will reduce the amount of gain and hence the tax payable.

However, there are certain conditions to use set off provisions.

• Long term capital loss can be adjusted or set off only against long term capital gains. Long term capital loss cannot be adjusted / set off with short term capital gains.
• If you have short term capital loss, the same can be adjusted against both short term as well as long term capital gains.
• Since long term capital gains tax on listed equity and mutual funds is ZERO, you cannot set off the loss on these with any other gain. This is called as Dead Loss.

So, it’s not necessary that you if have a capital gain you have to pay tax on it. If on another asset you have a capital loss, you can set it off too and thus reduce your tax liability.

What if even after set off you are left with capital loss balance? Not to worry. 

If all the losses cannot be set off in the same year and there is a balance, such balance can be carried forward upto 8 years from the year in which the loss was first incurred.  However, you can get this benefit only if you timely file your tax returns.

So, what’s the rumour about capital gains tax?

The rumour was that the long term capital gains tax on Listed Equity / Mutual Fund units is making a come back. As you know, currently there is ZERO tax on long term capital gains on sale of listed stocks and mutual funds.

The Finance Minister has already clarified that the this long term capital gain tax is not returning, at least for now. In any case, the government has an alternative to earn via the Securities Transaction Tax or STT. STT was introduced in lieu of the capital gains tax.

The rumour mills are also saying that the rate of short term capital gains tax can be increased from 15% to as per the income tax bracket. Also, the threshold period to calculate the long term capital tax can be increased to 3 years instead of the 1 year currently.

Well, let the rumours fly. Simply ignore them.

In my view, even if the changes happen, it is a good step. It will ensure consistency of capital gains tax treatment. There is nothing to worry about for long term investors like you and me.

Let’s just focus on our goals.

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Between you and me: What do you think about the capital gains tax issue? Do share your thoughts.

What’s your capital gains on your mutual funds? Just login to your account on Unovest and go to the Gain/Loss report. You can see financial year wise details of your realised as well as unrealised capital gains.