One of the most important and often overlooked factors for investments is tax implications. Tax on income earned has a direct impact on the return from investment. Similarly, you may even set off a loss from an investment against profit earned on some other investment.
Hence, it is essential to understand tax compliance before investing.
Short-term Capital Gains Tax
For capital assets, tax is applicable in two instances.
a. Periodic Income – For example, dividends or interest earned from the investment is subject to tax.
b. Capital Appreciation – The difference between the purchase and current market price refers to capital gain.
A capital gain may be short-term or long-term based on the investment holding period. Broadly, if the holding period of an investment is less than thirty-six months, then it is short-term.
What is Short-Term Capital Gains Tax on shares?
For some financial instruments, the capital gain is short-term if the holding period of fewer than twelve months. These instruments include listed shares, government securities, zero-coupon bonds, equity-oriented mutual funds and UTI units.
Sale proceeds of such financial instruments are subject to tax. To determine the STCG tax rate, identify if the short-term capital gain falls under section 111A or not.
Short-term capital gains that fall under Section 111A
Short-term capital gain under Section 111A is subject to tax at fifteen per cent. It also attracts surcharge and cess if applicable. Below are some instruments subject to STCG under section 111A.
i. Equity shares are listed on a recognized stock exchange.
ii. Equity-oriented mutual funds are listed and sold on a recognised stock exchange.
iii. Equity-oriented mutual funds, units or equity shares of a recognised business trust.
For example, you sell units of large-cap mutual funds on the National Stock Exchange. You held these units for five months before the sale. In this case, the difference between the purchase and sale price is subject to tax at fifteen per cent under Section 111A. Cess and surcharge are liable if applicable.
Short-term capital gains that do not fall under Section 111A
The short-term capital gain tax rate for shares other than Section 111A is at the standard tax rate. For individuals, it is per the income tax slab rate of the individual. Short-term capital gain is not tax-free. Taxpayers with the lowest income will be liable to short-term capital gain tax at ten per cent.
Below is a list of a few instruments not covered under Section 111A.
1. Equity shares that are not listed on a recognised stock exchange.
2. Debt-oriented mutual funds
3. Bonds, debentures and government securities
4. Shares other than equity shares.
For example, Mr Shah is a professional with an annual income of Rs. 12 Lakhs. He purchases debt mutual funds and redeems the units within six months. The sale of debt mutual fund units does not fall under Section 111A. Therefore, it is subject to tax as per the slab rates.
Mr Shah’s tax liability is a factor of his gross income i.e., a sum of his annual income and profit on the sale of debt mutual fund units. The entire gross income will be subject to tax as per the applicable slab rate.
How to Calculate Short-Term Capital Gains Tax?
STCG applies to the capital gain from a transaction and not the entire sales proceed. To calculate the tax, you must begin with the calculation of capital gain.
The difference between the sales price and purchase price of an asset is the net profit or capital gain. If the sales price is less than the purchase cost, then it leads to a capital loss.
From a tax perspective, the purchase cost also includes the expenditure incurred during the sale and the subsequent cost of improvement. Refer to the table below shows to calculate the capital gain tax.
Less: Cost of Acquisition
Less: Expenditure incurred on sale
Less: Cost of improvement
Short-Term Capital Gain
Exemptions and deductions under short-term capital gains tax on shares
The short-term capital gains tax on shares is not subject to any specific tax exemptions. However, certain income levels under which individuals are exempt from short-term capital gain tax. These include the following.
● Resident individuals with an annual income of Rs. 5 Lakhs with an age of eighty years or more.
● Resident individuals with an annual income of Rs. 3 Lakhs with an age of sixty years or more but below eighty years.
● Resident individuals below sixty years of age with an annual income of Rs. 2.5 Lakhs.
● Hindu Undivided Families with an annual income of Rs. 2.5 Lakhs.
It is important to note that only resident individuals and resident HUF can claim the exemption limit for short-term capital gains tax under Section 111A. Such exemption is available only after adjustment of other income. Therefore, the basic exemption limit applies to income other than short-term capital gain under Section 111A. After such adjustment, you may utilise the balance limit for short-term capital gain.
For individuals, there is no deduction under Section 80C for the tax liability on short-term capital gain tax on shares covered under the purview of Section 111A. Although individuals can claim deductions on STCG tax on shares not included under Section 111A.
Tips to Reduce the Burden of STCG on Shares
It is difficult to reduce the tax liability that arises from short-term capital gain tax on the sale of shares. However, individuals may adopt the following measure to reduce the tax burden.
1. Set-off Capital Gain
Individuals can adjust short-term capital loss against long-term and short-term capital gains. However, adjustment of loss cannot be an investment strategy and investors must refrain from using it often.
2. Carry Forward Capital Loss
Investors can carry forward capital loss for adjustment in future financial years. Though, you can carry forward a short-term capital loss for up to eight financial years.
3. Tax-Saving Mutual Fund
You can invest in a tax-saving mutual fund scheme to reduce tax liability and improve the overall return on investment.
4. Holding Period
The long-term capital gain tax rate is lower than the short-term capital gain tax rate. Therefore, you can hold the investment for a longer period to reduce the tax liability.
When can you invest in the Capital Gains Account Scheme?
The Capital Gains Account Scheme is useful to reduce the tax liability on capital gain from immovable property. The Capital Gains Account Scheme (CGAS) enables individuals to park long-term capital gains from the sale of immovable property in an account with a PSU bank or any other specified bank until investments under Sections 54 and 54F.
Section 54 provides tax relief to investors on investment of long-term capital gain from the sale of immovable property in a residential property. Similarly, Section 54F exempts tax on long-term capital gain from the sale of shares and bonds if you invest the net sales consideration in a residential property.
You can open a CGAS account only if you cannot invest the net sales consideration in a residential house property on or before the due date for filing your income tax return i.e., July 31 of the given assessment year.
Financial instruments sold within a year of purchase are often subject to short-term capital gains taxes. The tax rate for short-term capital gains is either a specified rate or the ordinary income tax rate. Short-term capital gain tax is subject to limited deductions and exemptions.
STCG tax rate is less favourable for an investor against long-term capital gain. The objective is to discourage frequent selling and speculation. The government prefers to encourage savings and capital inflow. Therefore, it taxes short-term capital gains at a higher rate.
Frequently Asked Questions
The benefit of indexation is not available on short-term capital gain tax. It is only applicable for long-term capital gains.
Short-term capital gain is not subject to tax exemption. However, STCG tax other than under Section 111A is taxable as per slab rates. The overall income in such a case is subject to a basic exemption limit.
The short-term capital gain for equity investments is fifteen per cent.
It is difficult to avoid short-term capital gain tax altogether. You can either set it off against a short-term capital loss or carry it forward to the next financial year(s).
The difference between short-term and long-term capital gain is the period of holding.
The period of thirty-six months is not standard for all assets. For example, shares held for more than twelve months are long-term capital assets, whereas the holding period for house property is twenty-four months.
Yes, an NRI is liable to pay taxes on gains made on the property’s sale in India. However, it is subject to deduction and exemptions.
Short-term capital loss can only be offset by short-term and long-term capital gain. You cannot offset it against any other income head. Also, you may carry forward the total or partial short-term capital loss if it cannot be adjusted.
The long-term capital gain tax on the sale of house property is twenty per cent.