Investor’s Guide to Capital Gain Tax & Surcharge

Published on Oct 29, 2019. 

There have been some important regulatory changes around Capital Gain tax arising out of the sales of equity mutual fund units since last two years. Notably surcharge has also been revised two times, first increased and then reversed partially, these have made the understanding and calculating the total tax liability arising out of sales of mutual funds confusing & cumbersome for a common investor. We are simplifying these concerns here in this series with the help of relevant examples:

Let’s first begin with the basics, the types of Mutual Fund and their holding period for the qualification of Short Term & Long Term Capital Gains –

Equity Mutual Funds have an investment objective to invest largely in equity shares and equity-related investments like convertible debentures. The investment objective of such funds is to seek capital appreciation through investment predominantly in equities.

Debt Mutual Funds have an investment objective that limits them to invest in debt securities like Treasury Bills, Government Securities, Corporate Bonds & Debentures & Money Market Instruments etc.

Balance funds shall be treated as equity mutual funds for the purpose of taxation, if not less than 65% of the funds of the scheme are invested in equities.

To determine whether the gains realized out of redeeming a fund will be qualified as “Long Term Capital Gain” or “Short Term Capital Gain”, the Holding Period of such fund is to be considered.

Category of Funds Short Term Long Term
Equity Mutual Funds Held for less than 12 months Held for 12 months or more
Debt Mutual Funds Held for less than 36 months Held for 36 months or more
Balanced Funds* Held for less than 12 months Held for 12 months or more

Capital Gain Tax

 
Holding Period
Types of Funds Less than 1 year 1 year to 3 years More than 3 years
Equity/Balanced Funds 15% 10% tax if gains are more than Rs. 1 Lacs 10% tax if gains are more than Rs. 1 Lac*
Debt Funds Taxed as per income tax slab rate Taxed as per income tax slab rate 20% tax with indexation or 10% without indexation

Surcharge and Cess are additional.

*  In case of Long Term Capital Gain on Equity Mutual Funds, grandfathering provisions shall be applicable. Since 1 April,  2018, long-term capital gains made on redemption, have been subject to 10% tax. The tax is applicable on gain made by the investor above Rs 1 Lac. However, the LTCG made till 31 January, 2018, have been grandfathered, so the gains will remain tax-exempt. In case of units purchased before 1 February, 2018, cost of acquisition will be considered as the higher of the actual cost of acquisition, or the NAV as on 31st January 2018. If the sale consideration (NAV for redemption) is lower than the NAV on 31 January 2018, the sale consideration will be considered instead of NAV. 
The long term capital gains upto an amount of Rs. 1,00,000 will continue to be exempt i.e. only the gains exceeding Rs. 1,00,000 would be taxable.

Example 1 – Capital Gain Tax on Equity Funds with Grandfathering

Mr. A purchased Equity Mutual Fund on 1st July 2016 and redeemed on 30th September 2019.

Following are the details of the mutual fund scheme:

No of units purchased : 4,06,464

NAV as on 1st July 2016: 70

NAV as on 31st January 2018: 80

NAV as on 30th September 2019: 90.3

Step 1

Compute the holding period – From 1st July 2016 to 30th September 2019, 39 months.

Since the holding period is more than 12 months, hence the capital gain shall be long term capital gain

Step 2

Compute purchase cost by applying grandfathering concept:

Since the purchase is made before 1st February 2018 and redeemed on 30th September 2019, therefore, grandfathering concept shall apply.

As per the provision of grandfathering, the cost of acquisition is higher of the actual purchase cost or the NAV as on 31st January 2018, here in this case, the NAV on 31st Jan 2018 is higher, therefore, purchase NAV shall be Rs 80.

Step 3

Compute total cost of purchase: (5,00,000*80=4,00,00,000)

Compute redemption value:        (5,00,000*90.3=4,51,50,000)

Step 4

Calculate Capital Gain

Sales consideration                               4,51,50,000

Less: Cost of Acquisition                     (4,00,00,000) 

Long Term Capital Gain                          51,50,000

Calculation of Tax Liability of Mr. A, considering the capital gain income is the only source of income.

Income Tax     [(51,50,000-1,00,000)-2,50,000]*10%            4,80,000

Surcharge# @ 10%                                                                            50,000

Add: Cess @ 4%                                                                                  21,200

Total Tax payable                                                                          5,51,200

 # We shall cover Surcharge later in this note.

Example 2: Capital Gain Tax on Debt Mutual Funds with indexation

Mr. A purchased Debt Mutual Fund on 1st September 2016 and redeemed them on 30th September 2019.

Following are the details of the mutual fund scheme:

No of units purchased: 25,000

NAV as on 1st September 2016: 40

NAV as on 30th September 2019: 50

CII for FY 2016-17   264

CII for FY 2019-20    289

(CII stands for Cost Inflation Index and is released by CBDT every year)

Step 1:

Compute the holding period – From 1st September 2016 to 30th September 2019, 37 months.

Since the holding period is more than 36 months, hence the capital gain shall be long term capital gain

Step 2

Compute total cost of purchase: (2,50,000*78.195=1,95,48,750)

Compute redemption value: (2,50,000*106=2,65,00,000)

Step 3

Compute indexed cost of acquisition:

 1,95,48,750*289 / 264

Step 4

Compute Capital Gain 

Sales Consideration                  2,65,00,000

Cost of purchase                      (2,14,46,970)

Long Term Capital Gain              51,00,000 

Capital Gain Tax (51,00,000-2,50,000)*20% =      9,70,000

Add: Surcharge @ 10%                                                   97,000

Add: Cess @ 4%                                                                42,680

Total Tax payable                                                       11,09,680

Income Tax Slab Rate for AY 2020-21 for Individuals:

Individual (resident or non-resident), who is of the age of less than 60 years:

Net income range Income-Tax rate
Up to Rs. 2,50,000 Nil
Rs. 2,50,000- Rs. 5,00,000 5%
Rs. 5,00,000- Rs. 10,00,000 20%
Above Rs. 10,00,000 30% 



Resident senior citizen, i.e., every individual, being a resident in India, who is of the age of 60 years or more but less than 80 years:

Net income range Income-Tax rate
Up to Rs. 3,00,000 Nil
Rs. 3,00,000 – Rs. 5,00,000 5%
Rs. 5,00,000- Rs. 10,00,000 20%
Above Rs. 10,00,000 30%

Resident super senior citizen, i.e., every individual, being a resident in India, who is of the age of 80 years or more:

Net income range Income-Tax rate
Up to Rs. 5,00,000 Nil
Rs. 5,00,000- Rs. 10,00,000 20%
Above Rs. 10,00,000 30%

* The rebate is available to a resident individual if his total income does not exceed Rs. 5,00,000.

    The amount of rebate shall be 100% of income-tax or Rs. 12,500, whichever is less.

* Health and Education Cess: The amount of income-tax and the applicable surcharge, shall be

   further increased by health and education cess calculated at the rate of 4% of such income-tax and surcharge.

Surcharge

Nature of Income Income upto 50 Lacs Income more than 50 Lacs to 1 Cr Income more than 1 Cr to 2 Cr Income more than 2 Cr to 5 Cr Income more than 5 Cr
Short-term capital gain covered under Section 111A NIL 10% 15% 15% 15%
Long-term capital gain covered under Section 112A NIL 10% 15% 15% 15%
Any other Income* NIL 10% 15% 25% 37%

*The Finance Act, 2019 has been amended to withdraw the enhanced surcharge, i.e., 25% or 37%, as the case may be, from income chargeable to tax under section 111A and 112A.

Example 1 – Surcharge with Marginal Relief

Mr. A, 45 years old, has income from salary amounting Rs. 49,00,000 and income from other sources amounting Rs. 1,50,000. What would be his tax liability?

Here, tax excluding cess and surcharge would be 13,27,500.  

Rate of surcharge applicable: 10%. (since income exceeds Rs. 50 Lacs but below 1 Crore)

Hence, Tax liability after surcharge is Rs.14,60,250 (13,27,500+1,32,750)

Tax liability if income below the surcharge limit i.e. Rs. 50,00,000: Rs. 13,12,500

Tax liability of Mr. A would be limited to the, income tax on income of Rs. 50 Lacs, increased by additional income above 50 Lacs. = 13,12,500+50,000 = 13,62,500

In order to compensate for this additional tax liability, “Marginal Relief” is provided to the tax payer.

The calculation of Marginal Relief is as follows:

Marginal Relief* = 14,60,250-13,62,500 = Rs. 97,750

Surcharge = 1,32,750 – 97,750 = 35,000

Therefore, Total Tax Liability would be:

Tax                                            13,27,500

Add: Surcharge                            35,000

Tax after Surcharge               13,62,500     

Add:  Cess @ 4%                          54,500

                                                   14,17,000

* Please Note: While computing surcharge, in case of taxpayers having total income of more than Rs. 50 Lacs marginal relief shall be available in such a manner that the net amount payable as income-tax and surcharge shall not exceed the total amount payable as income-tax on total income of Rs. 50 Lacs by more than the amount of income that exceeds Rs. 50 Lacs.

Example 2 : Total Income breaches threshold by addition of Capital Gain

Mr. B has earned income from salary Rs. 1,90,00,000/- during the FY 2019-20. During the same period, he has also earned the short-term capital gain u/s 111A of Rs. 15,00,000/-. What would be his income tax liability?

Here, we need to calculate tax as well surcharge on salary income and on capital gain, separately.

The point to be noted here is that by the inclusion of 15,00,000 short term gain, Mr. B’s total income increases to 2.05 Cr which above the threshold limit of 2.0 Cr for the calculation of surcharge on the taxes on the salary income, the surcharge on the salary income will thus increase to 25% now.

tax on income from salary would be (A): 55,12,500 (as per income tax slabs mentioned above).

Add Surcharge @ 25% (B) : 13,78,125

Add Cess @ 4% (on A+B)  : 2,75,625

Tax on capital gain would be ( C ): 2,25,000 (15% on Rs. 15,00,000)

Add Surcharge @ 15% (D) : 33,750

Add Cess @ 4% (on C+D)   : 10,350

Total Income tax Liability of Mr. B would be Rs. 74,35,350/-