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How is tax calculated on selling shares/MFs and how do to do tax harvesting?

Posted on 01 Sep 2021 • Updated on: 23 Jul 2024
Author: Sayan Sircar

Tags: Tax

16 mins read
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This post discusses the concept of tax calculations and tax harvesting in a simple manner.

Tax calculation

Originally published: 1-Sep-2021

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

Updated: 02-Feb-2023 - post Union budget 2023 - no changes in capital gains tax calculation

Updated: 26-Mar-2023 - updated with removal on indexation benefits on most mutual fund categories

Updated: 01-Feb-2024 - no changes in direct/indirect taxes in interim budget 2024

Updated: 23-Jul-2024 - hikes in capital gains tax rates and LTCG exemption limit in Union Budget 2024

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.

This article is a part of our detailed article series on the concept of mutual fund taxation in India. Ensure you have read the other parts here:

What are the tax implications of selling inherited shares and equity mutual funds?

This article shows how to calculate the tax on selling inherited shares and equity mutual funds using the grandfathering concept.

How to calculate and save tax on mutual funds?

This article is expected to give investors in India a complete guide on the topic of calculation of taxes on mutual funds.

What is the biggest benefit of holding mutual fund units in demat form?

This articles discusses some benefits and drawbacks of storing your mutual funds in demat mode with one killer feature that makes transmission possible.

What should debt, international and gold mutual fund investors do now that these funds are taxable at slab rate?

This article shows the way forward for investors in debt, gold, hybrid and international funds which have lost indexation benefits on units purchased after 1st April 2023.

Pay lower capital gains taxes for debt mutual funds: understand how indexation works

This article shows you how the concept of indexation lowers the capital gains tax you pay when you sell debt mutual funds.

Which mutual fund has lower tax - international funds at 20 percent vs domestic at 10 percent?

This article settles the question of which type of capital gain calculation is better - debt-type funds taxed at 20% with indexation vs equity-type at 10%.

Pay lower capital gains taxes for equity: understand how grandfathering works

This article explains the concept of equity LTCG grandfathering in detail with multiple case studies and examples.

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

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

📚 Topics covered:

Introduction
Taxation Rules
Some Basic Concepts
Taxation When Other Income is Not Present
Techniques of Tax Harvesting
- Loss Harvesting Using Offsetting Transactions
- Using Different Folios
One Lakh Twenty Five Thousand Equity LTCG Booking
- With 1.25 lakhs Exemption Rule
- Without 1.25 lakhs Exemption Rule

Introduction

Capital gains are the profit from selling a capital asset like stocks or mutual funds. Capital gains are of two types depending on the holding period (see Table A below):

Long-term capital gain: LTCG
Short-term capital gain: STCG

Tax harvesting is the concept of tax planning where you can offset capital gains in some mutual funds or shares against capital losses in others.

Taxation Rules

Table A: Taxation of Stocks and Mutual Funds

Type	Portfolio	Short-term capital gains \| Taxation	Long-term capital gains \| Taxation
Shares, Equity MF or equity-oriented Hybrid MF	>65% Indian equity	<365 days \| 20% + cess + surcharge	>= 365 days \| <1.25 lakh/year is tax free. Gains above 1.25 lakh are taxed at 12.5% + cess + surcharge
Balanced Hybrid funds	>40% Indian equity	<3 years \| Taxed at slab rate	>=3 years \| 20% + cess + surcharge on gains post indexation
Debt or Hybrid funds (debt oriented) or Gold or International funds	<35% Indian equity	<3 years \| Taxed at slab rate	>=3 years \| 20% + cess + surcharge on gains post indexation for units purchased before 01-Apr-2023
Debt or Hybrid funds (debt oriented) or Gold or International funds	<35% Indian equity	<3 years \| Taxed at slab rate	>=3 years \| At slab for units purchased after 01-Apr-23

where Capital gains = (Selling price - Buying price) * Units sold

and

buying price post indexation = (Buying price) * (Cost Inflation index today / (Cost Inflation index at the time of purchase).

These rates are updated for Union Budget 2024 (23-Jul-2024)

A surcharge on LTCG on all capital assets, including unlisted shares has been capped at 15% in Budget 2022. This will specifically help startup owners who will now pay lower taxes on selling unlisted shares. Earlier only listed shares had this cap.

Note that for equity shares and equity mutual funds, any capital gains incurred before 31-Jan-2018 is not taxable. This is the so-called ‘grandfathering clause’: Pay lower capital gains taxes for equity: understand how grandfathering works

When Should You Pay Capital Gains Tax?

Due date	Advance tax payable
15th June	15%
15th September	45%
15th December	75%
15th March	100%

Every taxpayer with more than ₹10,000/year tax liability should pay tax as per the schedule above. This rule means that before every date in the table above, it is good practice to calculate your capital gains and pay the advance tax.

Offset and Carry-Forward of Losses

Long-term capital loss is allowed to be offset only against LTCG.
Short-term capital loss is allowed to be offset 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).

Securities Transaction Tax (STT)

STT at 0.001% (i.e. 1 rupee per lakh) applies to all equity/equity MF buy and sell transactions. STT for debt MF is zero. This 0.001% amount is small enough to be inconsequential and should be ignored when calculating the effect of taxes on sale transactions.

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Some Basic Concepts

Wash Sale Rule

To perform tax harvesting, you need to sell something and then immediately buy it. The wash sale rule says that you cannot buy the same or very similar security within a short span of selling it. Tax authorities frown upon this practice in general.

India does not have a wash sale rule today. However, from an optics perspective, it will be better for investors to avoid performing a wash sale as much as possible.

FIFO rule

FIFO rule for mutual funds

First-in-first-out (FIFO) is the rule that needs to be followed when you are selling shares and mutual funds. The oldest shares/units are the ones that are used for calculating the purchase price.

Date	Folio	Transaction	Units	Price
D1	A	Buy	100	50
D2	A	Buy	100	60
D3	A	Sell	50	70
D4	A	Sell	70	80

In the example above, there are two buys and two sells. The units sold on D3 were purchased on D1 at price 50. The purchase value is ₹50 * 50 = ₹2500. The sold value is ₹70 * 50 = ₹3500.

For the 70 units sold on D4, 50 were purchased on D1 at ₹50/unit and the rest 20 were purchased on D2 at ₹60/unit. The profit on the first 50 units is ₹(80-50) * 50 = ₹1500 and that on the last 20 units is ₹(80-60) * 20 = ₹400.

Different folio rule

Different folio rule for mutual funds

Mutual funds held in different folios have different tax treatments. The first-in-first-out rule applies to units at a folio level. Suppose there are two folios A and B, where the units in B are bought after those in A and later sold, then only those in B will be considered for tax calculation.

Date	Folio	Transaction	Units
1	A	Buy	100
2	B	Buy	100
3	B	Sell	50

In the example above, for tax computation, only those units from Folio B are considered.

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Taxation When Other Income is Not Present

Imagine the situation of an investor with only capital gains from stocks/MF as taxable income. Salary, interest income, and other income are taxed at the slab rate and capital gains are taxed at special rates as discussed above. However, the basic ₹2.5 lakh exemption limit (₹3 lakh 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 lakh. All taxpayers should also check if they are eligible for a rebate under Section 87A where they can reduce their taxes by a further ₹12,500 if their total income is under ₹500,000.

Income tax returns must be filed to take advantage of the deductions and offsets. Some additional use cases and examples using real estate transactions are present here: How to calculate taxes from capital gains and combine them with your other income

References from incometaxindia.gov.in:

Techniques of Tax Harvesting

Tax harvesting is one of the tasks that you must perform in the month of March every year.

Loss Harvesting Using Offsetting Transactions

The profits obtained from the sale of some funds can be offset by deliberately selling other funds whose oldest units are at a loss.

Date	Folio	Fund	Transaction	Units	Price	Comment
1	A	X	Buy	100	10	First buy
2	B	Y	Buy	100	12	First buy
3	A	X	Sell	50	12	50*2=100 profit
4	B	Y	Sell	25	8	25*(12-8)=100 loss

For example, we sell 25 units of fund Y to offset the profit from selling 50 units of fund X.

If you are planning to keep investing in fund Y, selling units from Y now lowers the average purchase price of the remaining units. This leads to higher taxes in the future and needs to be weighed vs. saving taxes today.

Using Different Folios

Some investors prefer to segregate portfolios using different folio numbers and tag them to different goals as described here. This leads to a logical separation of goals and allows the booking of capital gains as per requirement.

One Lakh Twenty Five Thousand Equity LTCG Booking

If units sold in different funds are sold at a price higher than the purchase price and the total profit is:

less than 1.25 lakhs then the tax is zero.
more than 1.25 lakhs then tax of 12.5% (+ cess + surcharge) is payable on the amount more than 1.25 lakhs.

So if the LTCG is ₹145,000, then the tax payable is ₹20,000 * 12.5% = ₹2,500 + cess + surcharge.

This feature of the tax code gives an opportunity to book ₹125,000 profit every year in equity funds or stocks to save ₹10,000 in taxes. Note that this feature is calculated on ₹1.25 lakh of profits and not on the sale consideration.

For example:

With 1.25 lakhs Exemption Rule

Item	Price/Amount
Purchase price (A)	100
Units (B)	10,000
Book value (C=A*B)	10,00,000
Current price (D)	250
A year or more later	–
Units sold (F)	840
Market value (G=F*D)	210000
Capital gains H=(D-A)*F	126,000
Taxable capital gains = H - 1.25lakh	1,000
Tax @ 12.5% = T1	125
Units repurchased at 250 = U = G/D	840
A year or more later	–
Current price (D2)	350
All units sold F2 = B-F+U	10,000
Market value M=F2 * D2	35,00,000
Purchase amount = X = (B-F)*A + G	11,26,000
Profit = P = X-M	23,74,000
Taxable capital gains = P - 1.25lakh	22,49,000
Tax @ 12.5% = T2	281,125
Total tax = T1+T2	281,250

Without 1.25 lakhs Exemption Rule

Item	Price/Amount
Purchase price (A)	100
Units (B)	10,000
Book value (C=A*B)	10,00,000
A year or more later	–
Current price (D)	350
All units sold (B)	10,000
Market value (E=D*B)	35,00,000
Capital gains (F=E-C)	25,00,000
Taxable capital gains G=F-1.25 lakh	23,75,000
Tax @ 12.5% = G * 12.5%	296,875
Tax with harvesting	281,250
Tax saved due to harvesting	15,625

This example shows that harvesting 840 units after year 1 saved ₹15,625 tax. While using this method, the investor has to be mindful of the concept of the wash sale rule. It is better to combine LTCG harvesting along with portfolio rebalancing so that the sale proceeds are invested in different funds. You can do this either in March or throughout the year. The exemption is for total sales over the year.

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