Long-term Capital Gains on Shares

Investing in shares has long been a popular avenue for wealth creation in India. As an investor, it is crucial to have a comprehensive understanding of the tax implications associated with these investments. One such aspect is the long-term capital gains tax (LTCG) on shares. So, what is long-term capital gain tax on shares in India, and how is it computed? Let’s find out.

What is Long-term Capital Gain Tax on Shares?

Long-term capital gains tax is a tax applicable on the profit earned from the sale of assets held for an extended period, typically exceeding one year. If you have the shares for more than one year, any gains realized from their sale will attract long-term capital gains tax.

LTCG Tax Rate in India on Shares

Individuals and Hindu Undivided Families (HUFs) are required to pay LTCG tax at a rate of 10% (plus surcharge and cess) if the total LTCG for a financial year exceeds Rs. 1 lakh. However, any long-term capital gains below Rs. 1 lakh are currently exempt from taxation. Let’s understand it with the help of an example.

Suppose you purchased shares worth Rs. 10 lakhs in April 2021 and sold them in May 2023. By that time, the value of your shares jumped to Rs. 12 lakhs. As you have sold them after more than a year and have made gains worth Rs. 2 lakhs, you need to pay LTCG tax of 10% on Rs 1 lakh (Gains - Rs. 1 lakh). If your gains are under Rs. 1 lakh, you need not pay any LTCG tax.

Additionally, the LTCG tax rate in India on shares has no indexation benefit. With indexation,you can adjust the purchase price of the shares based on the inflation index. This adjustment aims to account for the impact of inflation on the cost of acquisition.

The aforementioned provision is applicable to transfers executed on or after April 1, 2018. Furthermore, this new provision was introduced with prospective effect, meaning that gains accrued from February 1, 2018 onwards will be considered for taxation.

This provision, commonly known as the 'grandfathering rule,' ensures that any long-term gains derived from equity instruments purchased prior to January 31, 2018, will be calculated in accordance with this rule.

Essential Considerations for Long-term Capital Gain Tax on Shares in India

• Holding Period: For long-term capital gains tax treatment, an investor must hold the shares for over a year. If the shares are sold within one year of purchase, the gains will be considered as short-term capital gains, which are taxed at the applicable short-term capital gains tax rate.

• Exemptions: As mentioned earlier, gains up to Rs. 1 lakh from the sale of shares in a financial year are currently exempt from LTCG tax. However, this exemption limit is subject to change, and it is advisable to stay updated with the latest regulations.

Ways to Reduce LTCG Liability

• Tax Harvesting

This method allows you to make a profit from selling shares without facing any tax liability as long as the gains are below Rs. 1 lakh and reinvested. The new acquisition cost is determined by the rate at which the shares are repurchased. To make the most of this method, you can repeat the process annually to utilize the Rs. 1 lakh exemption, potentially saving up to Rs. 10,000 in taxes each year.

Let's understand this method with an example. Imagine you buy 1000 shares of a company at Rs. 300 each. After three years, the share price increases to Rs. 600. If you decide to sell the shares at this point, the total sale price would be Rs.600,000.

After three years, you would be required to pay a capital gains tax of Rs. 20,000, calculated as follows:

Gains from sale of shares = Rs.600,000 - Rs. 3,00,000 = Rs. 300,000

The capital gains above Rs. 1 lakh are taxed at a rate of 10%, resulting in an LTCG of Rs. 20,000 (Rs. 300,000 - Rs. 1,00,000 = Rs. 200,000 X 10%).

By employing the tax harvesting method and buying and selling shares every year, you can save Rs. 20,000 in tax liability.

Let's delve into the details:

Suppose the share price after one year is Rs. 310. If you sell the shares at this price, the total capital gains would be Rs. 10,000 (Rs. 3,10,000 - Rs. 3,00,000). Since capital gains below Rs. 1 lakh are tax-exempt, the total tax liability would be zero.

Additionally, let's assume you repurchase the 1000 shares at Rs. 310.

In the second year, if the share price rises to Rs. 380, the capital gains would be Rs. 70,000 (Rs. 3,80,000 - Rs. 3,10,000). Once again, the capital gains fall below Rs. 1 lakh and remain exempt from tax.

The 1000 shares are repurchased again at Rs. 380.

In the third year, if the share price increases to Rs. 460, the capital gains would be Rs. 80,000 (Rs. 4,60,000 - Rs. 3,80,000). Once more, the capital gains fall below Rs. 1 lakh and remain exempt from tax.

This demonstrates how you can sell and repurchase shares to reduce their capital gains tax liability. However, it's crucial to remember that the equity market is highly volatile, and you may not always be able to repurchase shares at the expected price.

• Offsetting and Carrying Forward Losses

You have a method to reduce your long-term capital gains tax liability by offsetting gains against losses incurred. However, it's crucial to note that short-term capital losses can only be offset against short-term capital gains and long-term capital gains, while long-term capital losses can only be offset against LTCG.

Moreover, no specific restrictions exist regarding offsetting losses from one asset category against another. For example, a long-term capital loss from the sale of a property can be used to offset long-term capital gains from investments in shares or mutual funds.

Additionally, both short-term and long-term losses can be carried forward for up to eight successive years. This means that losses incurred in the current year can be set off against gains earned in future years.

You must remember an important caveat - their income tax returns must be filed within the specified due date under section 139 of the IT Act, 1961. Failure to file the return on time will result in the capital losses lapsing, and the taxpayer will not be allowed to carry them forward.

In Conclusion

Long-term capital gains tax on shares in India plays a significant role in the overall taxation framework for investors. Understanding the tax rates, indexation benefits, and other considerations allows you to make informed decisions while planning your investment strategies.

It is always advisable to consult a tax professional or financial advisor for personalized guidance based on your specific circumstances. By staying well-informed about the tax implications, you can optimize their returns and ensure compliance with the tax regulations in India.