1.What is Capital Gain?
Capital gain means the gain arising from sale or transfer of a capital asset. The difference between the original cost of acquisition of the capital asset and the net amount realized on sale of such capital asset is known as capital gains. Capital gains are of two types, namely Long Term Capital Gains (LTCG) and Short Term Capital Gains (STCG). LTCG arises from sale of long term capital asset and STCG arises from sale of short term capital asset.
E.g.:
Sale consideration from sale of capital asset = Rs.2,00,000/-
Less : Cost of acquisition = Rs. 80,000/-
Capital gains = Rs. 1,20,000/
2.What is Long Term Capital Gain (LTCG)?
Long-term capital gain is the gain arising from sale of long term capital asset. If an assessee holds the asset for a period that is more than 3 years before selling the same, then the asset will be termed as long term capital asset. However if the asset held is shares or securities, then, if it is held for more than one year before its sale, such shares and securities will be termed as long term capital asset.
E.g.: In the previous example, if the capital asset is any asset other than securities, if the date of acquisition is 1.1.2000 and date of sale is 2.1.2003, then the gains will be long term. If the capital asset is securities, and if the date of sale is 2.1.2001 for the same purchase date, then the gain will be long term.
3.What is Short Term Capital Gain (STCG)?
Short term capital gain is the gain arising from sale of short term capital asset. If an assessee holds any asset for 3 years or less before selling the same, then the asset will be termed as short term capital asset. However, if the asset held is shares or securities, then, if it is held for one year or less before its sale, such shares or securities will be termed as short term capital asset.
4.What is “Indexation”?
Indexation is the process by which the cost of acquisition of capital asset is marked up to represent the cost levels existing on the year of sale of such capital asset. Due to inflation, the cost keeps increasing from year to year. Every year, the Ministry of Finance, Government of India, notifies the Cost Inflation Index for that year. This Cost Inflation Index is based on the Wholesale Price Index.
While calculating capital gains, the cost of acquisition is reduced from the sale consideration. The cost of acquisition represents the cost incurred in the year of purchase. Due to inflation, the costs prevailing in the year of purchase will be different from that prevailing in the year of sale. In order to bring parity in cost levels, the original cost of acquisition is multiplied with the cost of inflation index of the year of sale and then the product is divided by the cost of inflation index of the year of purchase. As a result of this process, the cost of acquisition will reflect the cost incurred at cost levels prevailing in the year of sale. Such cost is called indexed cost of acquisition, which is deducted from the sale consideration in order to arrive at the capital gains. Indexation benefit is available only to calculate long term capital gains. Indexation benefit is not available to calculate short term capital gains. The cost inflation index is available from the FY 1981–82. Hence, in case of assets purchased before 1.4.1981, the fair market value of the asset as on 1.4.1981 will be taken as the cost of acquisition, irrespective of the actual year and actual cost of the asset.
E.g.: In the case in Question No.1, the cost inflation index for FY 99-00 was 389 and that for FY 2002-03 was 447, so the indexed cost of acquisition will be 80,000 * 447/389 which is equal to Rs.91,928/-. If however the asset was purchased before 1981-82 and if we assume the fair market value as at 1.4.1981 to be Rs.10,000/-, then the indexed cost of acquisition will be Rs.10,000 * 447/100 = Rs.44,700. The cost inflation index for FY 1981-82 is 100.
5.What is Securities Transaction Tax (STT)?
Securities Transaction Tax (STT) is the tax that is levied on the value of taxable securities transactions. STT is levied on all purchases or sale of an equity share in a company or a derivative or a unit of an equity oriented fund, entered into in a recognized stock exchange in India. This tax is charged and collected by the recognized stock exchange or by the prescribed person in case of mutual fund. The stock exchange or prescribed persons are responsible for remitting such STT collected to the government. STT will be levied only when the transaction take place in a recognized stock exchange in India. As a result, off market transactions are out of the purview of STT. STT plays a significant role in determining the taxability of the capital gains arising from sale of shares or securities.
6.How do capital gains from sale of stock differ from that of any other asset?
Capital gains arising from transfer of shares or securities is different from that of other assets, in two respects, namely, with regard to their period of holding and other with regard to the rate of tax.
Period of Holding:
In case of shares or securities, the period of holding before sale is more than one year for such asset to be termed as Long Term Capital Asset, if the holding is one year or less, then the asset will be termed as Short Term Capital Asset. Whereas, in the case of any other asset the relevant period of holding more than 3 years for Long Term Capital Assets and 3 years or less for Short Term Capital Assets.
Rate of Tax:
Short Term Capital Gain: If the transaction has suffered STT, then the rate of tax is 10%, if the transaction has not suffered STT, then the normal rate of 30% is applicable.
E.g. STCG on stock (STT suffered): Sale consideration is Rs.20,000/- and cost is Rs.12,000/-. Since the gain is short term there is no indexation. The Gain is Rs.8,000/-. The transaction has suffered STT, hence the capital gains tax is Rs.8,000 * 10% = Rs.800/-.
If the transaction has not suffered STT, then the tax is Rs.8,000 * 30% = Rs.2,400/-
Long Term Capital Gain: If the transaction has suffered STT, then LTCG is exempt from tax, if the transaction has not suffered STT, then the rate of tax is 20%.
Further where tax is applicable on LTCG, the assessee has two options:-
Option 1: The assessee can calculate the capital gains, using indexed cost of acquisition; or
Option 2: He / she can choose not to take the benefit of indexation.
If indexation benefit is opted, then the rate of tax is 20%, if indexation benefit is not opted, then the rate of tax is 10%. The assessee can calculate the tax under both these methods and can adopt any method which is more beneficial. In other words, the assessee can choose the method in which the tax burden will be lesser than the other method. However this option of opting for the indexation or not opting for the indexation is available only in cases where the securities are listed in a recognized stock exchange in India. If such securities are not listed then the assessee will have to necessarily opt for the method using indexation benefit.
Note: In all the cases, surcharge and education cess will be charged additionally over and above the given tax rate.
E.g.: LTCG on Listed securities (STT not suffered): Sale consideration is Rs.5,00,000/-, cost of acquisition is Rs.25,000/-. The shares were purchased in 1994-95 and their sale took place in 2005-06. The cost inflation index for the both years is 259 and 497 respectively.
Option 1 (With indexation): Indexed cost is Rs.25000 * 497/259 = Rs.47,973/-. Capital gains = Rs.4,52,507/-. Capital gains tax = Rs.4,52,507*20% = Rs.90,501/-
Option 2 (Without indexation): In the above case the capital gains will be Rs.5,00,000 minus Rs.25,000 = Rs.4,75,000/-. Capital gains tax = Rs.4,75,000 * 10% = Rs.47,500/-.
The assessee can opt for Option 2 because the tax payable is lesser than that in Option 1.
7.What is meant by Fair Market Value?
Fair Market Value is the value at which the share or security is quoted on any given date in the stock exchange in India. If the security is not listed in any stock exchange, then the value has to be calculated based on the net worth of the relevant company, as on that given date. In case of shares or securities acquired before 1.4.1981, the cost of acquisition of such shares or securities will be deemed to be the fair market value of such shares or securities on 1.4.1981.
8.How to calculate capital gains on sale of bonus shares?
Bonus shares are shares that are allotted to shareholders by virtue of them holding the company’s shares. It is given as an incentive to the shareholders. The cost of acquisition of bonus shares will be Nil. If such bonus shares are sold then, the entire sale consideration will be treated as capital gains, because the cost of acquisition is Nil. The nature of capital gains will be determined based on the period of holding of such bonus shares. However, if the bonus shares were allotted before 1.4.1981, then the fair market value of the shares as on 1.4.1981 can be considered as the cost of acquisition of the bonus shares.
E.g.: Mr. X bought 2000 shares in Company Y on 1.1.1995 for Rs.15,000/-. On 1.1.2000 the company allotted 2 bonus shares for every 1 share held. Mr. X sold 3000 shares on 1.1.2004 for Rs.1,50,000/-. In this case the cost of acquisition will be Rs.2000 * 7.5 + 1000 * 0 = Rs. 15,000/-. Since bonus shares were allotted free of cost their cost of acquisition should be taken as NIL.
