Why Modi 3.0’s Full Budget Needs to Harmonize Capital Gains Tax

In this respect, a specific one that the government needs to look at is the capital gain tax provisions.

At present, there are a quite few disparities concerning capital gains tax, making it complicated for investors or assessees to deal with.

First is the period to classify Short Term Capital Gains (STCG) and Long-Term Capital Gains (LTCG). The definitions of these are dissimilar for avenues within the asset classes.

Take the case of STCG. In the case of listed equity shares and equity-oriented mutual funds, if the holding period is up to a year it is considered as STCG. However, for unlisted equity shares, this holding period is up to 2 years. In the case of other non-equity financial assets such as bonds, debentures, etc. as well, if it is listed, the holding period considered for STCG is up to a year, whereas for the unlisted debt securities up to 3 years.

Likewise, for LTCG the holding periods are incongruous. Listed equity shares and equity-oriented mutual funds when held for more than a year are classified as long term, but for unlisted equity shares, the holding period is more than 2 years.

In the case of listed bonds, debentures, etc. holding period of more than 1 year is considered long term but if they are unlisted, then 3 years.

The second issue is that based on whether the securities are listed or unlisted, the capital gain tax rates are different.

The STCG tax on listed equity shares and equity-oriented mutual funds is @15% flat (plus surcharge and health & education cess, as applicable), while the unlisted equity shares are taxed as per the assessee's income-tax slab (i.e. at the marginal rate of taxation).

The LTCG tax on listed equity shares and equity-oriented mutual funds is @10% (plus the applicable surcharge and cess) only for capital gains over Rs 1 lakh (with no indexation benefit). But, if it is unlisted equity shares, the LTCG gains are taxed @20% with an indexation benefit available. The indexation benefit which covers the inflation cost, in effect, helps reduce the tax liability.

In the case of debt securities, for both listed and unlisted, the STCG is taxed as per one's tax slab. However, in the case of LTCG on debt securities, the unlisted securities are taxed @20% (without indexation benefit) whereas the listed debt securities @10% (without indexation benefit).

When you compare debt securities with debt mutual funds, also there is a disparity in the tax treatment. The capital gains on debt funds, irrespective of STCG or LTCG are taxable at the marginal rate of taxation, i.e. as per the assessee's income-tax slab. The indexation benefit that, in effect, reduced the tax liability was done away with. The Indian mutual fund industry has proposed that the capital gain on units of debt-oriented mutual funds held for more than 3 years be taxable @10% without indexation.

[Read: Modi 3.0 May Tweak Capital Gains Tax on Debt Mutual Funds]

Furthermore, currently, gold mutual funds are considered debt-oriented mutual fund schemes and taxed accordingly. What is the rationale behind this when the underlying investment of a gold mutual fund is in a precious commodity, gold? The current tax rule clearly makes it unfavourable for gold mutual funds.

[Read: Know About Tax on Mutual Funds in India Here]

On the other hand, for physical gold (gold bars, biscuits coins, jewellery, etc.) there is a distinct treatment for STCG and LTCG. The LTCG on physical gold, that is when the holding period of more than 3 years, is taxed @20% with an indexation benefit available to cover inflation cost from the year of purchase. The STCG tax on physical gold, that is when held for a period of up to 3 years or less, is taxed as per the income-tax slab of the assessee.

Thus, the Indian mutual fund industry has proposed that gold mutual fund schemes should be taxed in accordance with capital gains taxation on the underlying commodity and not as debt-oriented instruments.

[Read: The Mutual Fund Industry's Expectation from Modi 3.0's Full Budget]

The government needs to seriously look into these disparities or inconsistencies in the capital gains tax, which adds to the confusion and is unfair to the investors/assessees at large.

Aligning tax treatment shall enable individuals to sensibly plan their financial future. Different holding periods within the asset class to classify short-term and long-term, plus the indexation benefit available in a few cases and not to others, are not meaningful, in fact, dispiriting, and result in heterogeneous tax consequences.

The full budget 2024-25 is an opportune time for the Modi 3.0 government to seriously look at bringing some uniformity in capital gain tax for financial assets. This move shall simplify, rationalise capital gains tax, and in itself be a reform that would be a thoughtful one in the interest of investors/assessees and the financial markets.

Happy Investing!

Join Now: PersonalFN is now on Telegram. Join FREE Today to get PersonalFN’s newsletter ‘Daily Wealth Letter’ and Exclusive Updates on Mutual Funds.

Disclaimer: Investment in securities market are subject to market risks, read all the related documents carefully before investing. Registration granted by SEBI, Membership of BASL and certification from NISM in no way guarantee the performance of the intermediary or provide any assurance of returns to investors.

Mutual Fund investments are subject to market risks, read all scheme-related documents carefully.

Disclaimer: This article is for information purposes only and is not meant to influence your investment decisions. It should not be treated as a mutual fund recommendation or advice to make an investment decision in the above-mentioned schemes. Use of this information is at the user's own risk. The user must make his own investment decisions based on his specific investment objective and financial position and use such independent advisors as he believes necessary.

Disclaimer: This article is written from PersonalFN prospective and is not directly targeted towards any Government/Political circulars or decisions.