What is Capital Gains Tax? - Types, Tax Rates & Calculation

‘Capital gains’, as a term, finds extensive usage in finance, investments, and taxation. Capital gain refers to the profit an investor earns when they sell a capital asset for a higher price than its purchase cost. In other words, when the difference between the selling price and the acquisition cost is positive, it constitutes a capital gain.

To further define capital gains, these are classified into short-term and long-term capital gains. The distinction is based on the 'holding period for capital gains.' If asset sold within 36 months, it is called, it is a short-term capital gain.

What are Capital Assets?

Capital assets include land, buildings, vehicles, patents, trademarks, leasehold rights, machinery, and jewellery. They also include any rights concerning an Indian company or rights to management, control, or other legal rights. However, certain items are not classified as capital assets:

• Stock, consumables, or raw materials held for business or professional purposes
• Personal items such as clothing and furniture
• Agricultural land located in designated rural areas in India
• Certain government-issued gold bonds
• Specific bearer bonds
• Gold deposit bonds or deposit certificates under the relevant government schemes.

Classification of Capital Assets

Short-term capital assets (STCA)

An asset held for 36 months or less qualify as an STCA. This period is 24 months from the fiscal year 2017-18 onwards for immovable properties like land, buildings, and house property. This shortened period, however, does not apply to movable assets such as jewellery or debt-oriented mutual funds. Certain assets are deemed STCA if held for 12 months or less, subject to specific conditions.



Long-term capital assets (LTCA)

If an asset is held for over 36 months, it's considered an LTCA. This category applies to capital assets like land, buildings, and house property if held for more than 24 months (applicable from FY 2017-18). If held for more than 12 months, specific assets are deemed LTCAs.

When an asset is acquired via gift, will, succession, or inheritance, the holding period includes when the previous owner held the asset.

Also Read: What Are The Different Types Of Capital Assets? Find Out

Taxable Capital Gains

Tax rates for long-term and short-term capital gains can vary depending on certain conditions. The following are two types of taxable capital gains:

I. Short-term Capital Gains (STCG):

When selling a property, the asset holder must first consider the total value of the property. Next, various deductions are applied post-sale, including the costs associated with the property's acquisition, improvements, and transfer. After all these deductions have been taken into account, the final figure is deemed the short-term capital gain.

II. Long-term Capital Gains (LTCG):

In the case of a long-term asset, the asset holder must also initially consider the total value of the asset. Various deductions are then applied post-sale, including costs related to the property's transfer, acquisition, and improvement. Subsequent calculations for exemptions under Sections 54, 54B, 54EC, and 54F of the Income Tax Act are also considered. After these deductions and exemptions, the remaining amount constitutes the long-term capital gain.

The tax on Long-term Capital Gains applies Under the Following Conditions:

1. Real estate held for a period of two years
2. Debt and other assets held for a period of three years
3. Stocks, listed debentures, equity mutual funds, zero-coupon bonds, and units of UTI held for a period of one year

Tax rates for long-term and short-term capital gains are elucidated in the tables below:

A. Long-term Capital Gain Tax Rates:

Conditions	Applicable Tax Rate
Sale of stocks, listed debentures, equity mutual funds, zero-coupon bonds, and units of UTI	10% on gains exceeding Rs. 1,00,000
Sale of real estate, debt funds, and other assets	20% with indexation benefits

B. Short-term Capital Gain Tax Rates:

Conditions	Applicable Tax Rate
Securities-based transactions	15%
Transactions not based on securities	Added to your income and taxed according to income tax slab rates

Tax on Mutual Funds

The profits derived from the sale of debt and equity funds are subject to capital gains tax. The tax rates differ based on the type of mutual fund (equity or debt), the investment period (short-term or long-term), and the investor's tax bracket. As the tax on mutual funds is levied on the income generated from the sale of fund units, it's crucial to understand the applicable tax rules to make the most of your investments.

Also Read: A Guide on Calculating Capital Gains on Mutual Funds

Derivation of Short-term and Long-term Capital Gains Tax (STCG and LTCG)

Calculation of Short-term Capital Gains Tax (STCG):

Imagine Mr. A bought a property in 2014 for Rs.30,00,000 and sold it in 2016 for Rs.50,00,000. The applicable tax rate under the Income Tax Slab is 30%. In the process of selling, he invested Rs.2,00,000 in house refurbishment and Rs.25,000 in brokerage charges. Let's break down his STCG as follows:

Description	Amount (in rupees)
Property Sale Price	Rs.50,00,000
Deductions: Brokerage and Commission	Rs.25,000
Net Sale Value	Rs.49,75,000
Deductions: Original Property Price	Rs.30,00,000
Deductions: House Refurbishment	Rs.2,00,000
Deductions: Applicable Tax Exemptions (Sec. 54, 54B, 54D, 54EC, 54ED, 54F, 54G)	Nil
Net Short-term Capital Gain	Rs.17,75,000

Mr. A has a net STCG of Rs.17,75,00, subjecting him to a 30% tax payment. As such, his STCG tax amounts to Rs.5,32,520.

Also Read: Adjust Your Short-Term Capital Gains Against the Basic Tax Exemption Limit

Calculation of Long-term Capital Gains Tax (LTCG):

If an asset is held for over 12 months, LTCG tax applies. The LTCG is the difference between the net sale value and the inflation-indexed cost of the property. Indexing the property cost helps adjust the price appreciation due to inflation, as inflation tends to devalue money. The Cost Inflation Index (CII) is notified annually, with 1981-82 considered the base year.

For example, let's assume Mr.A bought a property in 2011 for Rs.30,00,000, which he sold in 2016 for Rs.50,00,000. During the period, he spent Rs.2,00,000 on house refurbishment and Rs.25,000 on brokerage charges. Here's his LTCG calculation:

Since Mr. A has owned the property for over two years, the capital gain from the asset will be classified as long-term. A tax rate of 20% is thus applicable, leading to an LTCG of approximately Rs. 1,15,939. [insert chart]

Description	Amount (in rupees)
Property Sale Price	Rs.50,00,000
Deductions: Brokerage and Commission	Rs.25,000
Net Sale Value	Rs.49,75,000
Indexed Cost of Acquisition [(Original Property Price in FY2011*CII of FY2016)/CII of FY2012)]	41,41,304= (30,00,000*254/184)
Indexed House Refurbishment Cost [(Cost*CII of FY2016)/CII of FY2012)]	2,54,000 = (2,00,000*254/200)
Gross Long-term Capital Gain	Rs.5,79,696

It's crucial to remember that the Cost Inflation Index varies yearly. For this example, we consider the years 2016, 2012, and 2011:

Financial Year	Cost Inflation Index (CII)
2015-16	254
2012-13	200
2011-12	184

Also Read: How to Save Long Term Capital Gain Tax - Guide

Tax on Equity and Debt Funds:

Capital gains tax is levied on your investments in either equity or non-equity securities, contingent on whether it's a long-term or short-term holding period.

Type of Funds	Short-term Capital Gains Tax	Long-term Capital Gains Tax
Equity Funds	15%	10%
Debt Funds	According to Income Tax Slab Rate	20% after Indexation

LTCG on equity mutual funds is exempted up to Rs. 1 lakh p.a. If your long-term capital gain in a financial year is Rs 1.5 lakh, only Rs. 50,000 will be taxable as LTCG.

Capital Gain under Income Tax Act: Exemptions

Section 54 of Capital Gain

• Section 54 of capital gain provision in the Income Tax Act offers a mechanism to obtain tax relief when the proceeds from selling a residential property are put back into acquiring another residential property. This essentially means that if a homeowner decides to sell their property and channels the profit into the purchase of another house, they stand to receive a tax exemption on the gains from the sale under Section 54 of capital gain.
• However, to enjoy this benefit under Section 54 of capital gain, certain stipulations need to be adhered to:
• The newly purchased property must be acquired either within a year prior to the sale or within two years following the sale. Alternatively, if the proceeds are used to construct a new house, the construction must be completed within three years from the date of the sale.
• To continue receiving the benefits of Section 54 of capital gain, the newly purchased or constructed property must not be sold within three years from the date of its purchase or construction.
• Lastly, for the benefits under Section 54 of capital gain to be applicable, the newly acquired property must be situated within the geographical boundaries of India. Thus, while Section 54 of capital gain offers significant tax relief, it's important to follow these conditions for maximum benefits.

Section 54F of Capital Gains

Exemptions under Section 54F can be claimed when capital gains are earned from a long-term asset other than residential property. Again, the exemption stands nullified if the new asset is sold within three years of its purchase or construction. The new property must be purchased within two years of the capital gain, or its construction must be completed within three years from the sale date.

Section 54EC of Capital Gains

Section 54EC offers tax exemptions if the capital gains realized from selling property are reinvested in certain specified bonds. This amount can be redeemed after five years, but the bonds can't be sold within this period. Investments in these special bonds must be made within six months of selling the property.

Section 54E, 54EA, 54EB of Income Tax Act

You can leverage the advantage of tax relief on long-term capital gains by directing your investments towards certain defined securities. These include government securities, savings certificates, units of UTI, specific debentures, and more.

Section 54EE of Income Tax Act

In the event of a long-term capital asset transfer and subsequent pursuit of tax exemption under the section 54EE of Income Tax Act, investing capital gains in Central Government units is essential. The stipulated timeframe to complete this investment is six months from the asset transfer date.

Exemptions on Short-Term Capital Gains Tax

Short-term capital gains are the profits you accrue from the sale or transfer of an asset held for a period not exceeding 36 months. As per Section 54B, if the proceeds are from the sale of agricultural land, these gains must be reinvested in purchasing new agrarian land to qualify for tax exemptions. The new purchase must be made within two years from the original sale or transfer date

Also Read: Section 10 Of The Income Tax Act: All Exemptions Covered

Wrapping Up

Understanding capital gains tax - both short-term and long-term, and their implications is vital for any investor or property owner. Recognizing the nuances, exemptions, and calculations involved can help minimize tax liabilities and optimize investment returns. While the tax calculations may seem daunting initially, one can successfully navigate through these processes with the proper knowledge and careful planning. Remember, it's not just about making profits but also about proficiently managing and reducing your tax burden.

FAQs – Frequently Asked Questions