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Long Term Capital Gains on Equities will now be taxed at 10%.” This is the major news that is now making headlines across all media platforms. Thanks to the latest proposal made in Budget 2018-19.

So, henceforth an investor of Stocks or Equity mutual funds has to pay 10% as taxes on Long Term Capital Gains (realized).

Before discussing on this proposal, lets understand what is LTCG & holding period??

Capital asset typically refers to anything that you own for personal or investment purposes. It includes all kinds of property; movable or immovable, tangible or intangible, fixed or circulating.

Capital assets are further classified as Financial Assets and Non-Financial Assets. Financial assets are intangible and represent the monetary value of a physical item. Stocks (Shares) and mutual funds are the best examples of Financial Assets.

The profit (if any) that you make on your mutual fund or equity investments, when you redeem or sell the MF units is referred to as Capital Gains. It can be a Short Term Capital Gain (STCG) or a Long Term Capital Gain (LTCG) depending upon the ‘Period of Holding’. The tax that is applicable on these profits is known as ‘Capital Gains Tax’.

MF schemes that invest at least 65% of its fund corpus into equity and equity related instruments are known as equity mutual funds. Examples are : Large cap, Mid-cap, Balanced funds (equity oriented), Sector funds etc.,

Period of Holding & Capital Gains on Equity Mutual Funds/Stocks

Capital gains on Mutual funds/Equities could be either long term capital gains or short term capital gains, depending on your investment horizon.

Long Term Capital Gains

  • If you make a gain / profit on your Equity investment that you have held for over 1 year, it will be classified as Long Term Capital Gain.

Short Term Capital Gains

  • If your holding in an Equity investment is less than 1 year i.e. if you withdraw your units before 1 year, after making a profit, then the profit will be considered as Short Term Capital Gain.

10% LTCG Tax on sale of Stocks/Equity Mutual Funds

As per the existing tax rule, equity investors need not pay any tax on long term capital gains. If investments in equity mutual funds or Stocks are sold within a year, gains will be treated as short term capital gains and taxed at 15 %.

The finance minister in his Budget 2018-19, has proposed to tax long term capitals gains of over Rs 1 lakh at 10% without indexation benefit.

For Example :

  • If an equity share is purchased six months before 31st January, 2018 at Rs 1,000 and the highest price quoted on 31st January, 2018 in respect of this share is Rs 1,200, there will be no tax on the gain of Rs 200, if this share is sold after one year from the date of purchase.
  • However, any gains in excess of Rs 200 earned after 31st Jan 2018 will be taxed at 10%, if this share is sold after 31st July 2018. Kindly note that you pay tax only the extra gain made after 31st Jan, 2018 and only if all such extra gains are above Rs 1 lakh.
  • So, If your LTCG is say Rs 1.25 Lakh and tax of 10% is applicable then you need to pay tax on Rs 25,000 only i.e., Rs 2,500 (up to Rs 1 Lakh, it is tax-free and on the remaining Rs 25,000 gains, 10% tax is applicable).

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The Securities Transaction Tax structure has been kept unchanged. However, a new proposal to introduce Dividend Distribution Tax @ 10% on Equity oriented Mutual Funds has been made. (The LTCG tax regime would be unchanged for unlisted equity shares where STT is not paid on purchase or sale.)

These amendments will take effect on transactions made from 1st April, 2019 and will, accordingly, apply in relation to the assessment year 2019-20 and subsequent assessment years.

How are Capital Gains calculated on Investments made before 1st Feb, 2018?

The cost of acquisitions in respect of the long term capital asset acquired by the assessee before the 1st day of February,
2018 , shall be deemed to be the higher of ;
a) the actual cost of acquisition of such asset (and)
b) the lower of –

(I) the fair market value of such asset as on 31-01-2018 and
(II) the full value of consideration received or accruing as a result of the transfer of the capital asset.

For example: If you bought a share for Rs 1,000 and have held it for more than 12 months (to qualify for LTCG) and say the fair market value (FMV) of the asset on 31.01.2018 is Rs 1,200 and you sell it for Rs 1,300 on 1-June-2018 then the LTCG is calculate as follows

  • Cost of acquisition of this share (purchased before 01-Feb-2018) = Higher of Cost of actual Purchase and FMV.
  • The actual purchase price is Rs 1,000 and FMV as on 31-Jan-2018 was Rs 1,200.
  • So, cost acquisition for LTCG purpose is Rs 1,200.
  • Hence, LTCG = Cost of acquisition – Selling Price. You would (for tax purposes) have realised LTCG of Rs 1,300 minus Rs 1,200 i.e. Rs 100.

For shares or equity MF units bought after 31st January, 2018, capital gain would be computed as = Selling price – actual cost of acquisition (without indexation). Here, FMV concept does not come into picture.

Any redemption made between 01-Feb-2018 and 31-March-2018, 10% tax rate on LTCG is not applicable.

My Opinion on levying 10% tax on LTCG

It is a known fact that many of the investors pick Shares or Equity mutual funds to make tax-free long term capital gains. So, this new proposal will surely disappoint them.

However, I always believe that investing in a particular financial product based on taxation is not advisable, as tax rules can change anytime. The impact of these changes can be positive or negative for an investor. In one of my very old articles, I have advised, ‘!’, do not invest in a product just because it offers tax-saving feature. Tax-saving is only a value addition.

When we invest in Equity securities, we generally do it with an investment objective of ‘long-term’, and because they have a potential to give us decent than many other Asset classes.

If you believe that there is no alternative to Stocks or Equity mutual funds for achieving your long-term financial goals, kindly continue with your investments in Equities., even if they are taxable now! Do we have any other better , especially for small and retail investors??

Do you believe that this proposal will have a major negative impact on Indian Equity markets? Will record in-flows to Mutual Funds stop or reduce due to 10% tax on LTCG? Kindly share your views, cheers!

(Featured image courtesy : laotiantimes.com) (References : The Economic Times) (Post published on : 01-February-2018)

This content was originally published here.