The short and long of 'Capital Gains'

Capital gain is a profit that accrues on investments into capital assets such as stocks, bonds or real estate, when the sale/transfer price exceeds the purchase price. Many countries impose tax on capital gains of individuals or corporations. In India treatment of Capital gains is covered under sections 45 to 55 of IT Act, 1961.

Long Term Capital Asset (LTCA) is defined as any capital asset held by the assessee for more than 36 months immediately preceding the date of its transfer. Other assets not covered by the above definition are treated as Short term capital assets (STCA). IT Act allows special treatment for LTCA. The purchase price of a LTCA is inflated to the extent of the annual Cost of inflation index notified by the Govt., for calculation of the capital gains chargeable to tax. Certain exemptions are available with respect to LTCG, for example an assessee who has sold his property can hold the money under capital gains account scheme and use the same to buy/construct a new property within a prescribed period (upto 3 years).

Special treatment under LTCG: The under noted assets are treated as Long term capital assets if held for more than 12 months:

• Shares held in a company
• Any securities (Debentures/ Govt. securities) listed on a recognised Stock exchange
• Units of UTI/ Units of recognised Mutual Funds
• Zero Coupon Bonds

The benefit of indexation does not apply to these assets, the entire gain is exempt from tax if STT is paid on them while selling through authorised Stock exchanges. These assets thus offer the investor more tax efficient means of investment.

Treatment of Capital Loss:

1. Losses under the head “Capital gains” cannot be set off against income under other heads of income.
2. Short-term capital loss can be set off against any capital gain (whether long-term or short-term)
3. Long-term capital loss can be set off only against long-term capital gain.
4. A long-term capital loss for a case where the long-term capital gain is exempt from tax will have no value. For example, if a share is held for a year or more and then sold at a loss, there will be no tax benefit. So this loss cannot be set off against any other income.
5. If the capital loss cannot be set off against the capital gain of that particular year then it can be carried forward for the next eight years.

In the light of the above, investors are advised to take advantage of the provisions of IT Act for long term capital gains. Equities/ Mutual Fund units are preferred investment options because of the special treatment accorded to them. However, investors also need to understand the importance of short term capital gains/ losses to re balance their portfolios.