This article has been contributed by CA Samir Sanghvi, Co-founder, InCorp Advisory.
The Union Budget for 2024-25 (II) unveiled the Prime Minister’s package of nine priorities which outlines the roadmap of ‘Viksit Bharat’ with an aim to simplify tax structures towards transparency and self-governance. While numerous aspects were highlighted in the Finance Minister’s speech, the rationalization of capital gains tax has emerged as the focal point of discussion.
Before diving deep into the budget amendments, let us look at the evolution of capital gain tax in India over the three decades.
| Year | Milestones in Indian Union Budgets |
|---|---|
| 1992 | Levy of the special tax rate of 20% on LTCG after indexation from 01/04/1981 with the introduction of Godfathering provision for replacing cost with FMV. |
| 2004 | Exemption on LTCG on listed securities with levy of a nominal Securities Transaction Tax (STT). |
| 2018 | Re-introduction of concessional LTCG tax on listed securities with no indexation benefits. |
Indexation is the process of adjusting the original purchase price thereby enabling a taxpayer to neutralise the impact of inflation while paying tax on capital gains.
The complexity of India’s direct tax laws, particularly in capital gains taxation was a concern amongst various taxpayers. Different holding periods and indexation rules for different classes of assets led to a complex maze. So, there was a need to simplify the income tax regime for capital gain for different asset classes.
Union Budget 2024 with an aim to rationalize and simplify the taxation of capital gains has proposed significant reforms discussed herewith.
Proposed Revamp of Capital Gains Taxes As Per the Union Budget 2024
1. Holding Period Simplification
The budget proposes the revision of the holding periods as per the classification of capital assets into long-term or short-term.
- 12 months for listed securities
- 36 months in the case of business undertaking
- 24 months for all other capital assets
2. Withdrawal of Indexation Benefits Across All Long-term Assets
- The indexation benefits used for calculating LTCG on specified assets have been proposed to be abolished from 23 July 2024 onwards.
- However, post receipt of various representations, the Finance Minister has reintroduced indexation on immovable property acquired before 23 July 2024. The resident individuals and HUFs can now opt for the old rule of 20% tax on LTCG with indexation or tax at 12.5% without indexation, in respect of immovable property acquired on or before 23 July 2024, thereby choosing a beneficial tax rate.
- This option is not applicable to any other entity such as partnership firms, LLPs, companies, or Non-Resident Indians (NRIs).
- Property acquired after 23 July 2024 is subject to the new rule of no indexation benefit on LTCG.
3. Introduction of Uniform LTCG Tax Rates Across Assets and Simplification in STCG Tax Structure for Specific Assets Class
The change in the basic tax rate of STCG and LTCG for different classes of assets qua holding period is summarised herewith:
@ Grandfathering provision prevails for replacing the original cost – 31/01/2018 for Equity and Equity Linked Mutual Funds, 01/04/2001 for other non-depreciable assets excluding self-generated assets and Business undertaking.
* Exemption of Rs.1,25,000 on LTCG proposed and such gains are subject to STT.
** With Indexation benefit.
^ Section 50AA of the Income Tax Act, effective April 2025, redefines specified Mutual Funds as those investing over 65% in debt instruments. This tax effect would apply for investments liquidated post-April 2025.
PS: Normal Rate includes slab rates for individuals/HUF, where applicable.
Nitin Konde
Impact Assessment of the Proposed Budget on Any Capital Asset That was Subjected to Indexation Before 22 July 2024:
Analysing the impact of no indexation vis-à-vis reduced LTCG rate should be evaluated on a case-specific basis. The impact assessment of amendment can be understood with the below example under three scenarios.
(Amount in Rs.)
^ Surcharge and Education cess extra.
Based on the above analysis, the post-budget amended provisions of taxability of LTCG at 12.5% without indexation will become more beneficial to the taxpayers, as compared to the pre-budget regime. This advantage will apply if the appreciation in the valuation of their properties is more than the minimum CAGR (Break-Even point) vis a vis holding period condition. Refer to the table below:
The changes have impacted different categories of assets/investors:
Real Estates Investments
- The interplay between CAGR above the break-even point and holding period conditions may play a crucial role in the coming years.
- Loss arising on account of indexation would not be available for claim. The Indexation benefit is limited for determining upfront tax outflow.
- Non-resident sellers may benefit due to a reduced withholding rate. However, they are not entitled to the option of claiming indexation with a 20% tax bracket.
Startup Ecosystems (including unlisted equity)
- Reduced LTCG tax on unlisted equities shall encourage participation in India’s startup ecosystem designed for growth in innovation, infrastructure, and domestic manufacturing.
- Much-needed clarification is provided for the holder of equity shares of unlisted companies who tender their shares via ‘Offer for Sale’ during IPO. If shares are acquired before January 31, 2018, and the same is offered for sale during IPO, then the cost of acquisition shall be adjusted by applying indexation of 2017-18 compared to indexation of the year of purchase.
- Startups with IPO mandates can smartly plan part of cash compensation to key employees in the form of ESOPs to attract talent and offer a tax arbitrage on secondary transfer due to the concessional LTCG tax regime.
Debt Mutual Funds
- The withdrawal of Indexation leads to a steep hike in the tax cost on debt mutual funds, making them practically unviable propositions for investors seeking assured time-bound returns.
Non-resident Indian (NRI) Investors
- The tax rates for non-residents have been aligned with resident rates aiming for more participation from NRIs.
- NRIs can continue to claim benefits of foreign exchange fluctuation and tax treaties between India and their respective country of residence.
Foreign Retail Investors (FI)/Foreign Institutional Investors (FII)
- Unlisted Compulsorily Convertible Debentures (CCDs) having fixed coupon rate till date of conversion into equity shall attract the highest tax bracket of slab rate (for FI) and 35% (for FII) irrespective of holding period. Holders of unlisted CCDs may be pushed to convert into equity to enjoy tax concessions ensuring holding of 24 months as equity before sale.
- However, listed CCDs would turn out to be the best option with a 12-month holding period and a 12.5% tax bracket.
Mergers and Acquisition (M&A)The concessional
- The concessional tax regime shall fuel the fastest and least procedural route of M&A i.e. business transfer through slump sale.
Concluding Thoughts
The reforms in the Budget, particularly the rationalization of capital gains taxation, represent a significant move towards providing clarity, simplicity, consistency, and efficiency in the tax framework. Rationalizing capital gains taxation by aligning the tax rates and holding period conditions for various assets shall have far-reaching effects. Further, the interplay of the abolition of indexation vis-a-vis concessional LTCG tax rate needs proper application of mind over hue and cry amongst the investors.
Anamika Mahapatra
