Benefits of tax-loss harvesting for traders

For a stock market trader, every profit and loss in the market matters a lot due to the short-period nature of the trading activity. So if you have net realised business gain (short term capital gain, long term capital gain, Futures & Options profits), you are liable to pay up to 30% taxes on these gains.

However, you can deduct this tax liability by using tax-loss harvesting by realising the loss in trade transactions. With the sale of loss-making entities, which are giving either a short term or long term capital loss, you can reduce tax costs.

Once you sell the stock, you can either rebuy a similar stock instantly or wait for the stocks to go out from your Demat and then repurchase the same stock two days later.

Reorganise your portfolio

One of the best things about tax-loss harvesting is the ability to reorganise your portfolio. Reorganisation of the portfolio helps in improving the balance between wealth, profit and risk.

When indulging in refinancing via tax-loss harvesting, look at which holdings to sell or buy, and pay heed to the cost principle (the adjusted, initial purchase price). The cost basis will determine the capital gains or losses on each asset. The cost basis will determine the capital gains or losses on each asset. This method prevents you from selling only to realise a tax loss that may or may not fit your investment strategy.

Some downsides of tax-loss harvesting

Everyone wants to reduce tax payments on their hard-earned money and therefore look to tax-loss harvesting as a primary method. But assets that are down are not necessarily a bad thing in the stock market. If a down stock is the one that can provide diversification benefits and balance your long-term returns, such a stock strongly rings the buy bells.

Some experts consider tax-loss harvesting a fundamentally flawed approach as it involves selling loss-making stocks. Their sale can lead to the loss, although temporary, of important diversifiers in a portfolio for a relatively small tax saving.

Tax loss harvesting

Tax loss harvesting is the method of trading financial security that undergoes a loss and helps you avoid some amounts of taxes, thus saving your money. By harvesting, i.e., realising losses, investors can offset their taxes on gains and income. 

In tax loss harvesting, the shares must be withdrawn from the Demat account by a delivery sell transaction. You can purchase (or re-purchase) them the next day.  The sold asset is substituted with a similar one, maintaining an optimal asset allocation and expected returns.

What does offsetting losses mean?

Offsetting in taxation processes means subtracting a capital loss from a capital gain and paying less tax. Simply put, the adjustment of losses against income or profit in a particular year is called set off. 

For example, if you own two stocks and sell one at a profit and the other at a loss, you only pay capital gains tax on the difference between profit and loss. Losses not set off against income can be carried forward to subsequent years and used against income.

Usually, investors use tax loss harvesting for STCG because the tax rates on short-term capital gains are higher than long-term capital gains.

Realised versus unrealised gains (or losses)

A realised gain occurs when an investment is sold for a price higher than the buy price. Income from realised gains is subject to income tax. Depending on the time of holding, such profits are divided into short-term or long-term gains. Long-term gains are held for more than a year, while short-term gains are held for less than a year.

An unrealised gain is an increase in the value of investments that investors have not yet sold for money. On the other hand, an unrealised loss is a decrease in the value of an asset or investment that is held instead of its sale and loss realisation.

This document is a prerequisite for any legal action or arbitration against your agent in case of fraud or deceit. Experts suggest that you should ask your broker for the note on a regular basis to ascertain security and transparency.

Interpretation

The contract note you receive is a combined contract note which details the equity trades conducted on the National Stock Exchange (NSE) and Bombay Stock Exchange (BSE), and futures and trading options (F&Os) on NSE.

Page One

• • The exchange order number is displayed in the Order Number column.
  • Order Time displays the timestamp of the order.
  • Trade No. shows the exchange’s trade number.
  • The Security/Contract column lists the stock/scrip in which the order was placed.
  • Buy/sell indicates the nature of the transactions.
  • The gross rate per unit shows the order’s execution price
  • The net rate per unit column will be the same as the gross rate per unit and brokerage costs are listed separately in the contract note.
  • For deferred derivative contracts, the closing price per share – the price at which the contract closed for the day – applies.
  • Net total before levies shows the total amount due to you or from you before brokerage and taxes.

Page Two

• • All the taxes applicable and brokerages, including SEBI turnover fee, Good and Services Tax (GST), Securities Transaction Tax (STT), stamp taxes, exchange transaction tax, etc. are listed here.
  • The total amount payable or receivable is put at the table’s end.

The main purpose of contract notes is to calculate the net brokerage charges and profits on capital investments. You can also use it to calculate data for filing income tax returns. In short, contract notes are important for transaction validation and participating in financial markets securely.

Investor interests’ safety and protection

Monetary investments in stock markets are undoubtedly one of the riskiest things to do with your money. But unlike other financial risks, stock markets give an excellent probability for your wealth to grow if you make intelligent decisions. Nevertheless, insurance and assurances on investors’ money are favourable to avert some of that risk element. The investor’s insurance money is a symbol of commitment. 

Put simply, investor protection is equivalent to returning the money to the investor when a brokering merchant reduces it or uses it for malicious activity. Insurance policies are essential to look for when opening a Trading Account or a record with an online dealer. When you open an exchange account at a brokerage, you are usually financially secure.

What does SEBI do?

SEBI’s general role consists of doing the following tasks:

Making sure that the financial backers are instructed on the mediators of protected markets.

Filtering the most popular acquisitions and take-over of organisations.

Preventing local securities trading like fake and preposterous trading moves in the insurance market.

Controlling vaulted assets, unfamiliar portfolio financial backers, FICO assessment agencies, and caretakers of protections.

SEBI’s role in investor protection

Over the years, SEBI has developed various methods and procedures to protect investors’ interests. It has published several guidelines, launched many enterprise awareness programs and established an Investor Protection Fund (IPF) to remunerate investors.

Market relation with stocks and bonds

Bonds influence the stock market by competing with shares for investors’ money. Bonds are safer than stocks but have low yield outcomes. This causes bonds to fall as the value of stocks rise (when the stock market is up). 

One of the best ways to counter inflation (price rise) is selling bonds and buying stocks when the economy is good. But if an economy slows, consumers shrink, corporate profits fall, and stock prices stoop as well. This is when investors choose the regular interest payments guaranteed by bonds.

Sometimes the value of stocks and bonds can rise at the same time. This happens when there is too much capital or liquidity in the investment market. There are also times when both stocks and bonds fall. In such a situation, investors panic and sell most of the financial assets which they deem risky. During such times, gold prices often rise.

Under existing rules, finance companies had to add Rs. 50 lakh of their own money for each mutual fund scheme. Now, SEBI has removed the upper ceiling. Instead, it has factored in the fund size and risk in the investment to ensure more skin in the game.

SEBI has also announced that companies must pay a part of the compensation (20%) for critical employees (C-suite and stakeholding executives) in units of the scheme they manage directly or look over indirectly. The idea is that this will connect the central staff of the AMC with the interests of their scheme’s unitholders.

Positive impact on mutual fund investors

Mutual funds asset managers raise funds from many investors to invest in a pool of stocks, bonds and short-term loans. Investors buy shares of mutual funds, and each stock is essentially their part ownership in the fund and the income it generates.

The new SEBI rule is set to avoid activities where ‘fund insiders’ redeem a significant part just before the announcement of a mutual fund schemes’ closure (or failure). Thus, the regulator has included a lock-in period of three years, which means that investments cannot be sold or redeemed for three years. 

This rule also applies to the fund manager’s liability and the concept of incentive pay. It will ensure that investment by fund houses in the schemes will align with the strategy’s riskiness, assets under management (AUM), and investor’s interests irrespective of their size. 

As a mutual fund scheme size will grow, AMCs will have to invest more funds. This is an encouraging step and will help align the interests of AMCs with that of unitholders more closely.

What will the new rules prevent?

Before the introduction of the new stock margin pledge rule, a broker was promised the client’s shares utilising a power of attorney (PoA) signed by the client on the broker’s account. The broker then placed these shares in the clearing corporation.

The PoA used by some brokers was problematic. Some brokers often misuse PoAs to transfer their clients’ shares to other clients or utilise their shares as collateral and borrow money for themselves. 

The new stock pledge rule abolished the PoA system and has introduced a new equity guarantee method. The pledged shares and promised promotions shall always remain in the customer’s Demat account under the new rules. The client would need to authorise a pledge request in favour of his broker. If the depositor takes responsibility, the broker can pledge shares to the corporation for the stake.

What are the changes in margin pledging rules?

Investors and brokers can no longer use a Power of Attorney (PoA) as proof of title transfer. They can, however, use it to transfer shares to the stock market in cases of debt recovery. It can also be used to initiate orders on behalf of clients, meet margin requirements, or provide trading limits to clients.

The shares need to be compulsorily put in the investor’s account. The stock can be directly pledged to the concerned person/authority, ensuring that investors continue to receive all the company’s benefits in their dealings.