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How to calculate taxes from capital gains and combine them with your other income

28 Jan 2022 - Contact Sayan Sircar
11 mins read

This article talks about understanding capital gains tax calculations and computing offsets vs other income.

How to calculate taxes from capital gains and combine them with your other income

Originally published: 28-Jan-2021

Updated: 02-Feb-2022 (post Union budget 2022)

Updated 2: 29-Jun-2022 (declaration of CII for FY 2022-23)

Disclaimer: Taxation is a dynamic concept and the content of this article is valid on the date of publication and any subsequent updates. Always consult a professional tax advisor before doing anything that leads to taxes being due.

Table of Contents

Understanding capital gains and their offsets

Capital gains come from selling a capital asset like shares, mutual funds or real estate. Tax on capital gains depends on the holding period (short or long, leading to STCG and LTCG). The tax rate is considered ‘tax on special rates’, which is separate from slab-based tax on income.

Capital gains are taxed as

  • listed shares and mutual funds with more than 65% domestic equity: 15% tax for STCG (<1 year) or 10% tax on LTCG above ₹1 lakh. No tax if this LTCG is less than a lakh
  • all other mutual funds: tax at slab rate for STCG (<3 year) or 20% tax after indexation on LTCG
  • real estate: tax at slab rate for STCG (<3 year) or 20% tax after indexation on LTCG

Cess at the applicable rate (currently 4%) should be added to the tax.

This article assumes that the investor understands the basics of capital gains taxes for selling shares and mutual funds as per this article: How is tax calculated on selling shares/MFs and how do to do tax harvesting?. For real estate, the holding period is short term for less than two years, and otherwise, it is long term.

Capital assets for the purpose of this article are shares, mutual funds, bonds(SGB, corporate, State government and RBI bonds), and real estate. However, suppose the asset is sold as a part of a business function, for example, a real-estate investor who buys and sells property via their company. In that case, it is considered stock-in-trade and not a capital asset.

Capital gains must be considered using data from the point of purchase or construction (like that of a house) by the original owner. This means that even if the property is transferred (by inheritance) or gifted, the original owner’s costs will be used to calculate capital gains.

The tax on long term capital gains is lowered by the concept of indexation. Indexation allows you to benefit from depreciation in the value of the asset and inflation by adjusting the purchase price upwards by a factor, published yearly by Income Tax department, called Cost Inflation Index (CII). In general, assets with indexation benefit on purchase price, irrespective of appreciation, will lead to lower taxes the longer they are held. Of course, you should not keep capital blocked solely to have the benefit of indexation but a bit of planning is important.

Using Cost Inflation Index to calculate LTCG

Cost Inflation Index (CII) table

Serial # Financial Year CII
1 2001-02 100
2 2002-03 105
3 2003-04 109
4 2004-05 113
5 2005-06 117
6 2006-07 122
7 2007-08 129
8 2008-09 137
9 2009-10 148
10 2010-11 167
11 2011-12 184
12 2012-13 200
13 2013-14 220
14 2014-15 240
15 2015-16 254
16 2016-17 264
17 2017-18 272
18 2018-19 280
19 2019-20 289
20 2020-21 301
21 2021-22 317
22 2022-23 331

Download as CSV

Always refer to the latest CII table from here for the calculation of LTCG.

LTCG example using a mutual fund

We take the example of a debt mutual fund purchased in 2015 and sold in 2020

  • CII at purchase is 254, CII at sale is 301
  • Purchase value is ₹10,000
  • Sale value is ₹15,000
  • Indexed purchase price is ₹10,000 * (301/254) = ₹11,850
  • LTCG = ₹15,000 - ₹11,850 = ₹3,150

Here we see that the LTCG is lower than the simple profit of ₹5,000 due to indexation benefit. In the case of real estate, under Section 50C, sale value is the maximum of actual sale price and fair market value of the property determined using cirlce rates or similar means. Also, the buyer of the property has to deduct 1% of the sale value as TDS and deposit to income tax authorities in case the sale proceeds exceed ₹50 lakhs. The seller has an option of claiming this amount while filing tax return.

LTCG example using real estate purchased after 2001

We take the example of an apartment purchased in 2010 and sold in 2018

  • CII at purchase is 167, CII at sale is 280
  • Purchase value is ₹15 lakhs
  • Sale value is ₹40 lakhs
  • Indexed purchase price is ₹15 * (280/167) = ₹25.15 lakhs
  • LTCG = ₹40 - ₹25.15 = ₹14.85 lakhs

The LTCG can be adjusted downwards by any additions and alteration expenses which is called “Cost of improvement”

LTCG example using real estate purchased before 2001

The CII starts at 100 for the FY 2001-02. So we need to know the house price in 2001 by using the services of a government-approved assessor. Once that is done, we can proceed in the same way as the previous case with one change: Cost of improvement expenses that have taken place before 2001 will not be considered.

We take the example of a house constructed in 1995 and sold in 2018

  • CII in 2001 is 100, CII at sale is 280
  • Assessed value of the house is ₹30 lakhs (irrespective of the money spent in construction and improvements up to 2001)
  • Original owner died in 2008 and the property was passed on to their legal heir, who sold the house in 2018
  • Renovation done in 2010 is ₹5 lakhs
  • Sale value is ₹1 crore
  • Indexed purchase price is ₹30 * (280/100) = ₹84 lakhs
  • Indexed renovation cost is ₹5 * (280/167) = ₹8.4 lakhs
  • LTCG = ₹100 - ₹84 - ₹8.4 = ₹7.6 lakhs

Tax on this LTCG is to be paid by the seller. Zero tax will be paid if ₹7.6 lakhs is invested in Sec54EC eligible bonds for 5 years (see below)

Lowering capital gains tax in case of a property sale

Section 54 of the income tax allows tax to be saved if:

  • you have purchased another house either a year before or two years after selling this property and do not sell it for three years
  • you invest a part of the sale proceeds (up to ₹50 lakhs) in eligible Sec54EC bonds for five years

Section 54EC bonds are available from issuers like NHAI, REC, PFC or IRFC. The interest on these bonds (generally 5%) are taxable but the principal on redemption is tax-free. You can purchase these bonds online from SHCIL or offline from banks.

Capital gains tax on selling land

Capital gains are calculated in the same away on selling land:

  • tax at slab rate if sold before three years
  • tax at 20% of profits post indexation, if sold after three years

The indexation calculation is the same as explained above. There is no capital gains tax on selling agricultural land since such land is not considered to be a capital asset.

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Capital gains offset and carry forward

Offsetting allows you to reduce the net tax payable as per these rules

  • Long term capital loss is allowed to be offset only against LTCG
  • Short term capital loss is allowed to be against either LTCG or STCG
  • You can carry forward both short and long term capital losses for eight years as long as you keep filing yearly returns (typically in ITR2 or above, not ITR1)

This concept of offsets allows you to reduce taxes in the future years. For example, you have ₹5 lakhs loss from selling a house in 2020. You can keep using that loss against profits in the following years as long as:

  • you keep filing returns every year
  • the loss is offset using the two rules above (LTCL vs LTCG, STCL vs both LTCG/STCG)
  • eight years have not passed
  • you have not exhausted the loss amount. This means that if in 2021 you are offsetting ₹3 lakhs of LTCG, only ₹2 lakhs can be carried forward from that point onwards

Capital gains and no other income

Imagine the situation of an investor with only capital gains from stocks/MF as taxable income. Salary, interest income and other income is taxed at the slab rate, and capital gains is taxed at special rates as discussed above. However, the basic ₹2.5 lakhs exemption limit (₹3 lakhs for senior citizens) applies here as well.

You do not pay any tax if total income plus taxable capital gains (after all offsets within capital gains and losses) does not exceed ₹2.5 lakhs. Tax payers should also check if they are eligible for a rebate under Section 87A to reduce their taxes by a further ₹12,500 if their total income is under ₹500,000.

This same rule is useful for investing in the name of children for their goals: Should you invest in the name of your children?

In the ₹7.6 lakhs LTCG example, if the assessor is a senior citizen (60+ age) with ₹1 lakh income from interest and no other income, then the tax will be like this:

  • Basic exemption limit is ₹3 lakhs
  • Adjust ₹1 lakh interest income against this first. ₹2 lakh limit is left
  • Adjust the ₹2 lakh against the LTCG of ₹7.6 lakhs, and LTCG tax will now be payable only on ₹5.6 lakhs

NRIs cannot offset capital gains against the basic exemption limit.

Exemption, gifts and income clubbing

A caveat on using basic exemption limit to reduce taxes:

Investments made in the name of family members in lower tax brackets falls under income clubbing rules though gifts are tax free. For example, if you give ₹5 lakhs to your parent as a gift and that amount is invested. The parent has no other income. After five years, the asset is sold, and LTCG is ₹2 lakhs. Here, the proper practice from a taxation perspective is to consider this income as yours and not eligible for exemption in the parent’s name.

More situations and references are available here from website:

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