All about shares and tax

What are the tax implications when you buy stocks or sell them? Read on to find out.

Is there any tax implication while making an investment in shares? Are investors in shares entitled to any tax benefits?

There is no tax implication while making an investment in shares. There are tax benefits to investing in some pre-approved companies as mentioned in the third point below. The tax implication arises only at the time of sale of shares as under:

• If certain eligible equity shares are purchased on or after March 1, 2003 but before March 1, 2004 and are transferred after 12 months, then the gain on the sale of such shares will be entitled for exemption under Section 10(36) of the Income Tax Act, 1961 by eligible equity shares. This applies to any equity shares, which form part of the BSE 500 index of the Mumbai Stock Exchange, the transaction of purchase and sale of which have been entered into through a recognised stock exchange in India and any equity shares, allotted through a public issue on or after March 1, 2003 and listed in a recognised stock exchange in India before March 1, 2004 and the transaction of such shares, if entered into through a recognised stock exchange in India.
• After October 1, 2004, any equity share, which has been sold through a recognised stock exchange and on which STT (Securities Transaction Tax) has been paid would be entitled to exemption from Long Term Capital Gains under Section 10 (38) of the Act. Similarly, in case of Short Term Capital Gain of such shares, the gains shall be taxed only at 10%, plus surcharge and education cess.
• Under Section 80C, any subscription to equity shares or debentures forming part of any eligible issue of capital, approved by the Court or an application made by a public company or subscription to such eligible issue by a public finance institution in a prescribed form, would be eligible to deduction subject to the condition of this Section. Also, subscription to any unit of a mutual fund, approved by the board in respect of any mutual fund, referred to in Clause (23D) of Section 10, would also be entitled.

What is the tax implication of a bonus/rights issue on equity shares?

Under Section 55(2)(AA), bonus on equity shares has a zero (nil) cost of acquisition. The holding period is calculated from the date of allotment of equity shares. The net sales proceeds are treated as the capital gain. The period of holding of such issue is reckoned from the date of the allotment of such issue.

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The cost of acquisition of the rights issue on equity shares is the amount actually paid for acquiring such right according to Section 55(2) (AA) (iii). The holding period is reckoned from the date of allotment.

Where there is a transfer of these rights, the cost of acquisition of such rights is to be taken as 'nil' according to Section 55(2) (AA) (ii). The sale price of such transferred rights will be taken as capital gain.

The period of holding in the hands of the transferor is computed from the date of offer, made by the company to the date of renouncement.

In case of the transfer of such rights, the cost of acquisition is the aggregate of the amount of purchase price, paid to the transferor to acquire the right entitlement and the amount, paid by him to the company for subscribing to such right offer of share.

The period of holding in the hands of the transferee will be from the date of allotment of such shares.

What is the tax implication on 'split shares'? Is the cost of acquisition halved or is it taken as nil? What about the period of holding?

The split shares represent the sub-divided shares of a lot of shares. The cost of such shares gets proportionately divided and the period of holding also continues to be the same as that of the original lot.

What is the capital gains liability arising on sale of shares, i.e. long-term/short-term?

In case of equity or preference shares in a company, if the shares are held for more than 12 months immediately prior to its transfer then it is known as long term capital asset and on transfer of long term capital asset, long term capital arises. Long term capital gains arising on transfer of equity shares will not be chargeable to tax from assessment year 2005-06 if such transaction is covered by securities transaction tax under section 10(38).

If an investor has multiple demat accounts, does he calculate capital gains on the first-in-first-out (FIFO) basis on each demat account separately or just once across all demat accounts?

In case of multiple demat accounts, the capital gains on sale of shares has to be computed on the basis of the FIFO with reference to the particular account from where the shares are sold. The FIFO method was introduced to bypass the process of determining the cost on one to one basis with the particular DP (depository participant).

Can short-term capital gains be set-off by investing in capital gains bonds?

No, short term capital gains cannot be set off by investing in capital gains bonds under Section 54EC. This benefit is only in respect of long-term capital gain.

For how long can capital loss (short-term or long-term) be carried forward by investors?

A capital loss (short-term/long-term) can be carried forward for a maximum period of 8 years from the assessment year in which the loss was first incurred.

A short-term capital loss can be set off against any capital gain (long-term and short-term). However a long-term capital loss can be set off only against a long-term capital gain.

What is the STT (Securities Transaction Tax) and how does it work? Are investments made prior to the STT regime eligible for the long-term capital gains tax waiver or is this facility available only to post-STT investments?

The Securities Transaction Tax has been introduced by Chapter VII of the Finance Act (No.2) Act, 2004. It provides for a levy of a transaction tax on the value of certain transactions. These transactions include the purchase and sale of equity shares in a company, purchase and sale of units of an equity growth fund, sale of a unit of an equity growth fund to the mutual fund and sale of a derivative.

The transaction tax will be payable on all transactions that have taken effect from October 1, 2004.

• Surcharge: Nil, Education cess: Nil
• Note: STT is not applicable in case of government securities, bonds, debentures, units of mutual fund other than equity oriented mutual fund and in such cases, tax treatment of short-term and long-term capital gains shall be as per normal provisions of law.

Effect of levy of the Securities Transaction Tax

1. Long-term capital gain, arising to an investor from the sale of these specified securities, shall be exempt from tax under section 10(38).
2. Correspondingly, long-term capital loss, arising from these specified securities, cannot be set-off against any other gain/income. This loss shall lapse.
3. Short-term capital gain, arising to an investor (incl. FII) from the sale of such securities, shall be charged at 10%, plus surcharge and education cess under section 111A.
4. This exemption of long-term capital gain is available to all assessees, including FIIs.
5. This exemption is available only to those assessees, who hold these specified securities as capital assets (investments) and not as stock-in-trade.
6. Correspondingly, at the year-end, the stock cannot be valued at cost or market value; whichever is lower, as it is not stock-in-trade. No deduction in the value of investments would be permissible.
7. Securities Transaction Tax will be applicable only with effect from October 1, 2004. For the earlier period, i.e. from April 1, 2004 to September 30, 2004, the earlier law will be operative.
8. The exemption of long-term capital gain is available only to transactions in relation to the specified securities. Exemption will not be available to transactions, not specifically mentioned in the list above.
9. The exemption would be available even in respect of specified securities, purchased prior to the introduction of Securities Transaction Tax but sold after the operative date.
10. The exemption is available to all shares. The earlier exemption, under section 10(36), was restricted to shares listed in BSE 500, which were purchased after March 1, 2004 but before April 1, 2004 and sold, after being held for more than twelve months.
11. The exemption is available to all specified securities, sold through a recognised stock exchange. Private deals or transactions, not routed through a recognised stock exchange, will not be covered.
12. The purchase of the specified securities could be through any mode and need not be through a recognised stock exchange.
13. The exemption is not available to other securities, which are not specified, e.g. preference shares, bonds, debenture, etc.
14. The exemption is not available to transactions where Securities Transaction Tax has not been paid.
15. Securities Transaction Tax, paid for the purchase and for the sale of the specified securities, will not be available as a deduction. No deduction for the Securities Transaction Tax is incurred for purchase or sale of the specified securities.
16. Since long-term capital gain would now be exempt from tax, Section 14A would come into play. This means that no expense shall be allowed to be claimed as a deduction in respect of income, which is exempt. For example, expenses like interest, rent, salaries, wages, electricity, telephone, water, etc. and other administrative expense will not be allowed, as a deduction since the income earned is exempt.
17. Rebate, under Section 88E, is available in respect of Securities Transaction Tax from Assessment year 2005-06.

Is the dividend income, received from investments in shares, taxable?

Dividend, received from investment in shares, is not taxable in the hands of the recipient. The company, distributing the dividend, is required to deduct tax from the amount of dividend declared. Such tax deducted will not be entitled to TDS for the recipient.

Do investments in shares have any Gift Tax implications?

Investments in shares do not have any Gift Tax implications. Investment in shares in the name of some other person other than the investors has Income-tax (gift) implications with effect from the financial year 2004. These shares will now be treated as income.

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