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Tax on Capital Gains

What Is A Capital Asset?

A capital asset is an asset that is anticipated to be owned by a firm or individual for a lengthy period of time, generally more than a year and is utilised for income generation rather than for selling. Capital assets include land, buildings, home property, automobiles, patents, trademarks, leasehold rights, machinery, and jewellery.

Types Of Capital Assets

  1. Short-term Capital Assets:
    Short-term capital assets are assets owned by an individual or a business for a duration of fewer than 36 months in India. Stocks, bonds, mutual funds, and other sorts of investments that are acquired and sold in a short period of time are examples of these assets. Any profits or losses incurred when an individual or corporation sells a short-term capital asset in India are classified as short-term capital gains or losses. Long-term capital gains are subject to taxes more heavily than short-term capital gains. Short-term capital gains on listed stock shares and equity-oriented mutual funds are taxed at 15% as of the fiscal year 2021-22, while non-equity assets are taxed at the person's corresponding income tax slab rate.
  2. Long-term Capital Assets:
    Long-term capital assets are stocks, bonds, mutual funds, and other sorts of long-term investments that have been owned by an individual or a firm for longer than 36 months. When a person or company sells a long-term capital asset in India, all profits or losses are termed long-term capital gains or losses. Short-term capital gains are taxed more heavily than long-term capital gains. Long-term capital gains on listed equity shares and equity-oriented mutual funds are taxed at 10% for earnings exceeding Rs. 1 lakh in the financial year 2021-22, whereas non-equity investments get levied at 20% after indexation.

    Indexation is the process of adjusting the asset's purchase price for inflation, which can reduce taxable capital gains. This is especially useful for long-term capital assets, which are frequently kept for many years and are susceptible to inflation.

Defining Capital Gains And Capital Gain Tax

Capital Gains

Capital gains are referred to the profits emanating from the sale of capital assets. Capital gains occur when you sell a capital asset for a higher price than you paid for it. Likewise, a capital loss occurs when the asset's worth falls below its purchasing price. Only when you sell an asset for more than its initial purchase price can you earn a capital gain? Capital gains can't be applied to inherited property. This is because an inherited property is just a transfer of title rather than a sale. The two types of capital earnings are long-term capital gains and short-term capital gains.

Capital Gain Tax

Profits accumulated from the sale of any capital asset are referred to as capital gains. Such profits might be realized by selling investments or real estate property.

Since profits are categorized as an 'income', they are liable for taxation. This is known as capital gains tax.

Tax Calculation Over Capital Gains

"Calculation of tax on short-term capital gains is simpler than that on long-term gains. For short-term gains, the gain is added to the total income and then the Income Tax is calculated based on the tax bracket that you fall in. Calculation of tax on long-term capital gains is a slightly trickier business. Since long-term capital assets are held for longer periods, inflation also factors in while computing tax on long-term capital gains"[1]

Tax on short-term capital gains: The following is how short-term capital gains tax is calculated:
  • The short-term capital gains tax rate for listed equity shares and equities-oriented mutual funds is 15%.
  • The short-term capital gains tax rate for non-equity assets is the individual's applicable income tax slab rate.

Tax on long-term capital gains: The tax on long-term capital gains is determined as follows:
  • For profits surpassing Rs. 1 lakh, the long-term capital gains tax rate for listed equity capital and equity-oriented mutual funds is 10%. Gains of less than Rs. 1 lakh are tax-free. Furthermore, if long-term capital gains are achieved before February 1, 2018, they will be tax-free.
  • The long-term capital gains tax rate for non-equity assets is 20% after inflation adjustment using the cost inflation index.
(The cost inflation index (CII) is an inflation indicator that is used to modify the cost of acquiring or improving an asset for the purpose of computing long-term capital gains tax. The Central Board of Direct Taxes (CBDT) publishes the CII every year, and it is used to adjust the purchase price of an asset for inflation.)

To calculate the taxable capital gain, the following formula can be used:
  • For short-term capital gain
    Short-term capital gain= full value consideration - (cost of acquisition + cost of improvement + cost of transfer)
  • For long-term capital gain
    Long-term capital gain = total consideration received or accrued minus (indexed cost of purchase + indexed cost of improvement + cost of transfer).
  • Indexed cost of acquisition = cost of acquisition x cost inflation index of transfer year/cost inflation index of acquisition year.
  • Indexed cost of improvement = cost of improvement x cost inflation index of transfer year/cost inflation index of improvement year.

(The indexed cost of acquisition is the asset's initial cost adjusted for inflation using the CII of the year it was acquired, whereas the indexed cost of the improvement is the cost of any improvements made to the asset adjusted for inflation using the CII of the year the improvements were made.)


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