Capital gains are the rising worth of an investment that makes its current value higher than when it was originally bought by the owner. So if you bought shares of a company at Rs. 25 lakh in 2008 and the current value of the shares is Rs. 35 lakh, then the capital gains would be equal to Rs. 10 lakh in 8 years. However, if you do not sell the shares, then the capital gains are not realised and you make no profit. On the other hand, if the worth of the investment has depreciated over a period of time, you incur capital loss if you sell it.
There are two types of capital gains – short-term and long-term.
Short-Term Capital Gains:
As per the Income Tax laws of India, if an investor holds an immovable asset for less than 36 months before selling it, it would be considered a short-term capital gain. But this is not applicable to stocks and bonds. Stocks, shares and bonds are faster-moving compared to real estate. Because of this, if they are held for 12 months or less before sale, they fall under short-term capital gains. However, this rule is applicable only to securities which are listed and traded on the stock exchange. If you are trading in unlisted or over-the-counter securities, then the 36-month rule applies.
Aryan Sharma bought gold exchange traded funds worth Rs. 1 lakh in January 2015 and sold them on the stock exchange in August 2015, after just 7 months. Here, his income from the sale of the ETFs will fall under short-term capital gains. If he bought an unlisted stock in April 2013 and sold it in January 2016 – after 33 months – it will still be under short-term capital gains.
Long-Term Capital Gains:
Income Tax laws in India specify that immovable property held for more than 36 months – or 3 years – before sale, fall under long-term capital gains. For stocks, shares and bonds, this period is more than 12 months instead of 36 months. Unlisted securities, on the other hand, will be considered as long-term capital gains only if sold after 36 months.
Rita Mehta bought shares of a company that is not listed on any stock exchange in India, in January 2013, and sold them in March 2016. This means she held the shares for 38 months, and hence her income from sale of the shares falls under long-term capital gains. If she had bought the shares of a BSE-traded stock in January 2015 and sold them in February 2016, after 13 months, they would still be considered long-term capital gains.
How to calculate Capital Gains on Shares?
Short-term capital gains can be computed by subtracting the following 3 items from the total value of sale:
- Brokerage or expenditure incurred in connection with the sale of the asset
- Purchase price of the asset
Sandeep Venkatesh bought 250 shares of a listed company in October 2015 at a cost of Rs. 155 per share, paying a total of Rs. 38,750. He sold them for Rs. 192 per share in March 2016, after 5 months, at Rs. 48,000. Let us see how much his short-term capital gains will be.
- Full sales value – Rs. 48,000
- Brokerage at 0.5% – Rs. 240
- Purchase price – Rs. 38,750
Therefore short-term capital gain made by Sandeep will be: Rs. 48,000 – (Rs. 38,750+ Rs. 240) = Rs. 9,010
Calculating the long-term capital gains is a little more complicated. The 3 items you need to subtract from the total sales value are:
- Brokerage or expenditure incurred in connection with the sale of the asset
- Indexed purchase price of the asset
Indexed cost is arrived at when the price is adjusted against the rise in inflation in the asset’s value. The Government of India releases Cost Inflation Index, through which the indexed cost can be estimated. The Cost Inflation Index (CII) from the fiscal year 1981-82 to 2015-16 are available. For easy reference, here’s the Cost Inflation Index from 2010-11 to 2015-16:
| Financial year | CII |
| 2010-11 | 711 |
| 2011-12 | 785 |
| 2012-13 | 852 |
| 2013-14 | 939 |
| 2014-15 | 1024 |
| 2015-16 | 1081 |
The formula to check the indexed purchase price of the asset is: Cost of purchase multiplied by CII of the year of sale divided by CII of the year of purchase
Let us tweak the above example a bit to illustrate long-term capital gains. Sandeep bought 250 shares of a listed company in October 2014 at a cost of Rs. 145 per share, paying a total of Rs. 36,250. He sold them for Rs. 192 per share in March 2016, after 17 months, at Rs. 48,000. In this case, to calculate long-term capital gains, we first need to check what the Indexed purchase price of the asset is.
Indexed purchase price of the shares = 36250 x 1081 / 1024 = 38268 approximately
So Sandeep’s long-term capital gains are based on the following numbers:
- Full sales value – Rs. 48,000
- Brokerage at 0.5% – Rs. 240
- Indexed purchase price – Rs. 38,268
- Indexed improvement cost – Rs. 0
The long-term capital gains made by Sandeep will be: Rs. 48,000 – (Rs. 38,268+ Rs. 240) = Rs. 9,492
What is capital gains tax?
Capital gains are taxable. An investor – individual or company – has to pay capital gains tax only if the asset is being sold. If you hold an asset with appreciating value but do not sell it, you do not have to pay capital gains tax. Capital gains tax is applicable to any asset that rises in value over time – be it stocks and shares, or a real estate property such as house, land or commercial space. However, it is not applicable to consumable goods such as food materials or drinks and movable property such as clothes, jewellery, or artworks.
How to calculate Short-Term Capital Gains Tax?
Tax rates differ for short-term capital gains and long-term capital gains. There is a 15% tax on short-term capital gains that fall under Section 111A of the Income Tax Act. This includes equity shares, equity-oriented mutual-funds, and units of business trust, sold on or after October 1, 2004 on a recognised stock exchange, and falling under the securities transaction tax (STT).
Nisha Hegde bought equity shares worth Rs. 1 lakh in January 2013 and sold it in November 2013 after 10 months at Rs. 1.8 lakh. Let us calculate her short-term capital gains tax.
Capital gain: Full sales value – (Brokerage at 0.5% + purchase price) = 1,80,000 – (900 + 1,00,000) = Rs. 79,100
Short-term capital gains tax: Short-term capital gain multiplied by Tax rate divided by 100 = 79,100 * 15 / 100 = Rs. 11,865
Debt-oriented mutual funds and preference shares, however, do not fall under the purview of Section 111A. In this case, the income from the sale of the funds or shares will be added to the regular income of the owner and taxed according to normal individual I-T rules.
How to calculate Long-Term Capital Gains Tax?
Long-term capital gains that fall under Section 10(38) of the Income Tax Act are not taxable. Equity shares, equity-oriented mutual-funds, and units of business trust cannot be subject to tax if:
- the sale is taxable under the STT,
- the shares are a long-term capital asset, and
- the sale has happened on or after October 1, 2004.
Debt-oriented mutual funds and preference shares, however, are subject to general long-term capital gains tax rules. Accordingly, they have to pay a 20% tax with indexation and 10% tax without indexation. Indexation increases the purchase price and the capital gain decreases accordingly. You can apply the indexation formula on the purchase price and calculate its 20% tax, or estimate the 10% tax without indexation. Thereafter you can choose the tax slab that is the lower of the two.
Let us see an example to make it clear. Aniruddh Mukherjee bought debt mutual shares in May 2012 at a cost of Rs. 1.5 lakh. He sold it in March 2016 for Rs.3.3 lakh. Since these are debt-oriented mutual fund products, they are taxable at 20% with indexation or 10% without indexation.
The capital gains made by Aniruddh without indexation is Rs. 1,63,500 as per the calculation below:
Full sales value – (Brokerage at 0.5% + purchase price) = 3,30,000 – (16500 + 1,50,000) = Rs. 1,63,500
Purchase price after indexation will be: 1,50,000 x 1081 / 852 = Rs. 1,90,317
With indexation, the capital gains made is Rs. 1,23,183 as per the calculation below:
Full sales value – (Brokerage at 0.5% + indexed purchase price) = 3,30,000 – (16500 + 1,90,317) = Rs. 1,23,183
Let us compare the long-term capital gains tax on both the figures:
Long-term capital gains tax @ 20% with indexation – Rs. 1,23,183 x 20 / 100 = Rs. 24,636.6 Long-term capital gains tax @10% without indexation – Rs. 1,63,500 x 10 / 100 = Rs. 16,350
In this case, long-term capital gains tax without indexation is lower than the figure with indexation. Aniruddh can choose to pay the tax at 10% without indexation.
Capital gains tax can often be complicated to estimate. Apart from the taxes, there are also a small amount of cess and surcharge applicable. In terms of tax, having long-term holdings are better than short-term holdings, as you have to pay a 15% tax on short-term capital gains. Investing in listed securities and equity-oriented mutual funds for long-term holdings also works out better as the capital gains from these sources is not subject to tax.