What are Tax Saving Mutual Funds?

Taxes on Long Term Capital gains have always sparked interesting conversations and with the recent changes coming into effect, it is all the more important to know the details about these taxes. This article attempts at giving detailed explanations about the taxes on Long term Capital gains along with some examples and scenarios. The article is consisted of the following sections
Introduction This section talks about the explanation of the different terminologies such as Long term assets and Long term capital gains
Latest changes in the Budget Here, we discuss the major changes with respect to LTCG taxes
Calculations of Taxes using examples and scenarios In this section, we calculate the taxes using different cases
Introduction: Before we get into the details of taxes and the recent changes, it is important to know what constitutes Long term assets and Long term capital gains. Long Term Assets: Any asset which is acquired for more than 36 months is termed as a Long Term Asset. In case of immovable property such as land, building and house, the criteria is 24 months. In addition, the term is 12 months for the following assets:
  • Equity or preference shares in a company listed on a recognized stock exchange in India
  • Securities (like debentures, bonds, government securities etc.) listed on a recognized stock exchange in India
  • Units of UTI, whether quoted or not
  • Units of equity oriented mutual fund, whether quoted or not
  • Zero coupon bonds, whether quoted or not
Long Term Capital Gains: The gains (profits) which are acquired by the sale of assets after 36 months is termed as long term capital gains. The rule for 36 months has been modified for certain types of assets from the Financial Year 2017-2018. In case of immovable property such as land, building and house, the criteria is 24 months. Similarly, certain assets when sold after 12 months, the gains are termed as long term capital gains. Those assets are:
  • Equity or preference shares in a company listed on a recognized stock exchange in India
  • Securities (like debentures, bonds, government securities etc.) listed on a recognized stock exchange in India
  • Units of UTI, whether quoted or not
  • Units of equity oriented mutual fund, whether quoted or not
  • Zero coupon bonds, whether quoted or not
Latest Changes in the Budget: The Budget 2018 has proposed to change how Long Term Capital Gain on Stocks and Equity Mutual Funds will be taxed in an individual’s hands. The changes will be effective for transactions done from April 1, 2018.  The Finance minister, Arun Jaitley, announced 10% tax, without indexation, for capital gains exceeding one lakh from all direct equity and equity mutual funds. However, all capital gains until January 31, 2018 will be grandfathered, that is still subject to old rules. The LTCG tax would be unchanged for unlisted equity shares where STT is not paid on purchase or sale. The Grandfather Clause: The 'grandfathering' clause is an exception before the new law takes into effect. It is the exemption granted to existing investors or gains made by them before the new tax law comes into force. In simple terms, if you sell your stocks or equity MF units held for more than one year before January 31, 2018, you can still claim tax exemption on long-term capital gains. Tax exemption of one lakh every financial year Only LTCG exceeding 1 lakh will be taxed at 10%. If your LTCG are within 1 lakh in a particular financial or fiscal year, you are not entitled for any taxes. Calculation of the LTCG Tax If the stock/MF is sold after March 31, 2018, the LTCG will be taxed as follows:
  • The cost of acquisition of the share or unit bought before February 1, 2018, will be the higher of : a) the actual cost of acquisition of the asset b) The lower of :
  • (i) The fair market value of this asset (highest price of share on stock exchange on January 31, 2018 or when share was last traded. NAV of unit in case of a mutual fund unit) and
  • (ii) The sale value received when the share/unit is sold.
Important Scenarios and Examples: Scenario A: Selling Price is more than Purchase Price and Fair Market Price as on 31 Jan 2018 1.
Purchase Price INR 10
Units 10,000
Purchase Date August 10, 2017
Price on January 31, 2018 INR 15
Selling Date August 11, 2018
Selling Price INR 25
Initial Value of Investment: INR 100,000 (10,000 * 10) Value of Investment on January 31, 2018: INR 150,000 (10,000 * 15) Selling Value of Investment: INR 250,000 (10,000 * 25) Total LTCG = INR 150,000 (250,000 – 100,000) Grandfathered Tax Free Portion: INR 50,000 (150,000 – 100,000) Remaining LTCG = INR 100,000 (Total LTCG - Grandfathered Tax Free Portion) Tax exempted portion of LTCG in a financial year: 100,000 Final Taxable LTCG = zero (0) 2.
Purchase Price INR 10
Units 20,000
Purchase Date August 10, 2017
Price on January 31, 2018 INR 15
Selling Date August 11, 2018
Selling Price INR 25
Initial Value of Investment: INR 200,000 (20,000 * 10) Value of Investment on January 31, 2018: INR 300,000 (20,000 * 15) Selling Value of Investment: INR 500,000 (20,000 * 25) Total LTCG = INR 300,000 (500,000 – 200,000) Grandfathered Tax Free Portion: INR 100,000 (300,000 – 200,000) Remaining LTCG = INR 200,000 (Total LTCG - Grandfathered Tax Free Portion) Tax exempted portion of LTCG in a financial year: 100,000 Final Taxable LTCG = 100,000 Tax Rate = 10% Tax Amount = INR 10,000 Scenario B: Selling Price is less than Fair Market Price as on 31 Jan 2018 but more than the Purchase price.
Purchase Price INR 10
Units 20,000
Purchase Date August 10, 2017
Price on January 31, 2018 INR 15
Selling Date August 11, 2018
Selling Price INR 12
Here, the cost of acquisition is: Higher of (10 and lower of (15 and 12)) Cost of Acquisition = INR 12 Taxable CG = Selling Price - Cost of Acquisition = INR 12 – INR 12 = 0 Important Note: This is NOT a Capital Loss because, Actual Capital Gain per unit = INR 12 – INR 10 = INR 2 Grandfathered Capital Gain = INR 15 – INR 10 = INR 5 Effective Taxable CG = Actual Capital Gain - Grandfathered Capital Gain = INR 2 – INR 5 = 0 (as it is negative) In this case, only effective LTCG = 0 and not actual LTCG. So this is not a loss and cannot be used for offsetting. Scenario C: Selling Price is less than Fair Market Price as on 31 Jan 2018 and less than the Purchase price
Purchase Price INR 10
Units 20,000
Purchase Date August 10, 2017
Price on January 31, 2018 INR 8
Selling Date August 11, 2018
Selling Price INR 6
Here, the cost of acquisition is: Higher of (10 and lower of (8 and 6)) Cost of Acquisition = INR 10 Taxable CG = Selling Price - Cost of Acquisition = INR 6 – INR 10 = -4 per unit Total Taxable LTCG = INR -80,000 (This is a Long Term Capital Loss) Points of Consideration:  
  • Indexation of the cost of acquisition will not be allowed. Indexation refers to adjusting the gains against inflation, which brings down the real gains.
  • The capital gain from date of purchase to Jan 31, 2018 is tax-free if you sell after 365 days from the date of purchase

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About The Author

The author has over 9 years+ experience in media, traditional and digital marketing. Chirag currently leads the Marketing function at Samco Group and overlook all marketing and communications for the Samco Group.

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