Long-term capital gains (LTCGs) are the realised profits on investments that have been held for more than 12 months at the time of sale. Profits on security holdings that are less than one year old are known as short-term investment gains. Long-term capital gains are generally taxed less than short-term capital gains.
Long-term capital gains (LTCG) on equity
The long-term gains from the sale of public shares and equity-based mutual funds used to be outside the purview of taxation before 2018. But the introduction of Section 112A in the Finance Act, 2018, following the year’s union budget, mandated levying the LTCG tax on such assets. However, the new legislation provided tax exemption on long term capital gains up to Rs 1 lakh. Any amount exceeding this limit is taxed at 10%.
Important things to know about the long-term capital gains tax rules in India
- The 10% taxation of long-term capital gains (LTCGS) started from 1st April 2018.
- Long-term capital gains tax is applicable on profits from shares and mutual funds held for over one year (365 days).
- LTCG tax is applicable on Equity Linked Savings Scheme (ELSS). Unit Linked Insurance Plans (ULIPs) are exempted from this tax practice.
- Indexation benefits, which help generate inflation adjusted returns, are not applicable for LTCG taxation, unlike real estate.
- LTCGs up to Rs. 1 lakh are entirely tax-free.
- Securities Transaction Tax (STT) must be paid along with LTCG tax.
Understanding the Long-Term Capital Gain (LTCG) tax
The long-term capital gains are figured out by the difference between the selling price and the purchase price. This number tells whether you have made a net profit or a net loss on the sale of your invested assets. As a taxpayer, you are legally bound to declare the total capital gains for the fiscal year because capital gains are considered as taxable income.
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Due to changes in the tax laws in 2018, long-term capital gains are taxed at a lower rate of 10% compared to the 15% of short-term capital gains.
In terms of capital losses, both short-term and long-term losses play an essential role in helping investors reduce taxes. Investors can use the tax-loss harvesting techniques to offset gains and pay fewer taxes on capital gains in the long and short term.
A working example of long-term capital gains tax
For the calculation of capital gains, the government introduced the Grandfather Concept. Under it, 31st January 2018 was chosen as the base date for deciding the fair market value of equity (share price/Net asset value) for LTCGs. This meant that the net asset value (NAV) or share prices were calculated with 31st January 2018 as the reference date.
The move was introduced to delineate the cost of acquisition of holdings concerning historical costs and fair market value (or the current price) of securities. The historical cost is related to the actual price when a transaction is executed.
On the other hand, fair value refers to the real value of an asset in the current market. The higher of these two costs is used as the basis for calculating capital gains.
Suppose you bought shares worth Rs. 3 lakhs on 1st September 2020. After holding your shares for over one year, you decide to sell them at Rs. 5 lakhs on 31st September 2021.
Since you have held the stock for over one year (1st September 2020 to 31st September 2021 > 1 year), the profit on this transaction will be a long-term capital gain.
On the sale, you will receive a profit of => Rs. 5 lakh – Rs. 3 lakhs = Rs. 2 lakhs
As the profit has occurred over the long term, the LTCG tax will be applied to it. The taxation rules state that the first Rs. 1 lakh gains are untaxable. So, your LTCG tax will be calculated on the rest of the profit, which is,
Rs. 2 lakh – Rs. 1 lakh = Rs. 1 lakh (1,00,000)
Thus, your LTCG tax will be 10% of 1,00,000 = Rs. 10,000
In the same example, consider a case where your profit is less than Rs. 1 lakh. You bought the shares at Rs. 3 lakhs, and after one year, you sell them at Rs. 3.8 lakhs
Gains = Rs. 3.8 lakhs – Rs. 3 lakhs = Rs. 0.8 lakh (or Rs. 80,000)
Here too, the LTCG tax will be applied as the holding period is over one year. But the levied LTCG tax here will be 0 as the minimum limit for LTCG tax is Rs. 1 lakh. Any equity gains below this amount are not taxable.
Exemptions
In the case of the sale of shares, you may be allowed to deduct these expenses:
- Broker’s commission related to the shares sold
- STT or securities transaction tax is not allowed as a deductible expense
But in general, long-term capital gains on security holdings and trades are not exempted from tax. However, as mentioned above, LTCG tax is not levied up to the Rs. 1 lakh profit mark. Individuals in specific income levels can be exempted from paying income taxes for short-term capital gains on shares.
