TAXATION OF EQUITY PRODUCTS

Taxation of Equity Products

• Definition: Taxation of equity products refers to the tax rules and regulations applicable to various types of equity investments, including listed and unlisted equity shares, preference shares, share warrants, equity-oriented mutual funds, and derivatives.
• Details: Understanding the taxability of equity products is crucial for investors to make informed decisions and minimize their tax liabilities.

Key Concepts

• Sources of Income: Equity investments can generate two types of income: Capital Gains and Dividend Income.
• Capital Gains: Arise when a capital asset is sold at a price higher than its cost of acquisition.
• Dividend Income: Refers to the distribution of profits by a company to its shareholders.

Tax Treatment of Dividend Income

• Tax on Dividend: After the abolition of dividend distribution tax, dividend income is taxable in the hands of shareholders.
• Tax Rate: The tax rate on dividend income depends on the residential status of the shareholder and the quantum of income.
• Double Taxation Avoidance Agreements (DTAAs): Apply to non-resident shareholders, and the tax rate ranges from 5% to 15% of the gross amount of dividends.

Tax Treatment of Capital Gains

• Computation of Capital Gains: Involves calculating the profit or gain arising from the sale of a capital asset.
• Long-term Capital Gains: Taxable at concessional rates of 10% or 20%, depending on the type of asset and holding period.
• Short-term Capital Gains: Added to total taxable income and chargeable to tax as per the tax rate applicable to the assessee.

Listed Equity Shares

• Definition: Represent ownership of a person in a company and are listed on a stock exchange.
• Tax on Dividend: Dividend received by a resident shareholder is taxable in their hands at the applicable rates.
• Charges and Taxes: Various taxes and charges are payable when purchasing and selling equity shares, including Brokerage, Security Transaction Tax (STT), Stamp Duty, Exchange Charges, SEBI Turnover Charges, and Depository Participant (DP) Charges.

Important Aspects

• Period of Holding: The tax treatment of gains or losses from the sale of listed equity shares depends on whether the gains are long-term or short-term.
• Securities Held in Physical Form: The date of the broker's note is treated as the date of transfer, provided the contract is followed up by delivery.
• Securities Held in Demat Form: The period of holding is determined using the First-In-First-Out (FIFO) Method.

Taxation of Equity Products (Part 2)

• Introduction to FIFO Method: In the depository system, the FIFO (First-In-First-Out) method is applied account-wise. This means that when an investor has multiple security accounts, the securities in one account cannot be considered for sale when debiting another account.
• FIFO Method Application: The basis for determining the movement out of an account is the date of entry into the account. For example, if old physical stock is dematerialized and entered at a later date, the FIFO method considers the date of entry into the account.
• Example of FIFO Method: If an investor has the following transactions:
  • 1-6-2020: 2,000 shares purchased directly in Demat form
  • 5-6-2020: 5,000 shares dematerialized from physical certificates
  • 10-6-2020: 4,000 shares purchased directly in Demat form
  • 15-6-2020: 3,000 shares dematerialized from physical certificates If 2,500 shares are sold from this account, the cost of acquisition of the first 2,000 shares will be calculated from 25-5-2020, and the balance 500 shares will be treated as having been acquired on November 1, 2005.
• Tax on Long-Term Capital Gains (Section 112A): Long-term capital gains arising from the sale of listed equity shares are chargeable to tax at a concessional rate of 12.50% (plus applicable surcharge and cess) if the total income includes long-term capital gain and the aggregate amount of such gain during the year exceeds Rs. 1,25,000.
• Exceptions to STT Payment: The benefit of the concessional tax rate is available in case of transfer of equity shares if STT is chargeable both at the time of transfer and at the time of acquisition of shares, except in certain scenarios, such as:
  • Transaction undertaken on a stock exchange located in an International Financial Services Centre (IFSC)
  • Shares acquired before 1-10-2004
  • Acquisition approved by the Supreme Court, High Court, NCLT, SEBI, or RBI
  • Acquisition by a non-resident in accordance with FDI guidelines
  • Acquisition by an Investment Fund or Venture Capital Fund or a Qualified Institutional Buyer
• Cost of Acquisition of Shares Acquired On or Before 31-01-2018: The cost of acquisition of such shares or units shall be the higher of the actual cost of acquisition or the lower of the fair market value as on 31-01-2018 or the full value of the consideration received as a result of the transfer of equity shares.
• Cost of Acquisition of Shares Acquired On or After 01-02-2018: The cost of acquisition of equity shares acquired on or after 01-02-2018 shall be computed as per general principles of Section 55, i.e., the actual cost for which it is acquired by the assessee.
• Tax on Long-Term Capital Gain (Section 112): Long-term capital gains arising from the sale of equity shares not covered under section 112A are taxable at the same rate of 12.50% under section 112.
• Tax on Short-Term Capital Gains (Section 111A): Short-term capital gains arising from the sale of listed equity shares satisfying the conditions mentioned are chargeable to tax at a concessional rate of 20% if the transaction is chargeable to Securities transaction tax or transaction is undertaken in foreign currency on a recognized stock exchange located in an International Financial Services Centre.
• Tax on Normal Short-Term Capital Gain: Short-term capital gain arising from the sale of equity shares is chargeable to tax at normal rates as applicable in case of an assessee if it is not taxable at the concessional rate of 20% under section 111A.
• Tax Treatment of Listed Equity Shares: The tax treatment of listed equity shares is summarized in Table 11.1, which provides the rate of tax for long-term and short-term capital gains, depending on whether STT is paid or not.
• Rate of Surcharge on Capital Gains: The rate of surcharge on capital gains arising from the transfer of listed equity shares by an individual or HUF is enumerated in a table, which provides the surcharge rates based on the total income and capital gains covered under sections 112, 112A, and 111A.

Taxation of Equity Products

• Tax Slabs: The tax slabs for equity products are as follows:
  • Rs 1 crore – Rs 2 crore: 15%
  • Rs 2 crore – Rs 5 crore: 15%
  • Above Rs 5 crore: 15% if opts for new tax regime of Section 115BAC, otherwise 37%
• Long-term Capital Gains: Long-term capital gains are taxable at 12.50% plus surcharge and health & education cess
• Short-term Capital Gains: Short-term capital gains are taxable at the normal rate as applicable in case of an assessee

Tax Treatment of Unlisted Equity Shares

• Holding Period: Unlisted shares are treated as long-term capital assets if held for more than 24 months
• Tax on Dividend: The taxability of dividend income from unlisted equity shares is the same as for listed equity shares
• Tax on Long-term Capital Gains: Long-term capital gains from unlisted equity shares are taxable at 12.50% plus surcharge and health & education cess
• Tax on Short-term Capital Gains: Short-term capital gains from unlisted equity shares are taxable at the normal rate as applicable in case of an assessee

Tax Treatment of Preference Shares

• Definition: Preference shares carry certain special or priority rights, including a fixed dividend and repayment priority
• Tax on Dividend: The taxability of dividend income from preference shares is the same as for equity shares
• Tax on Long-term and Short-term Capital Gains:
  • Listed shares: 12 months holding period to qualify as long-term capital assets, taxed at 12.50%
  • Unlisted shares: 24 months holding period to qualify as long-term capital assets, taxed at 12.50%

Tax Treatment of Shares Warrants

• Definition: A share warrant is an option to subscribe to equity shares at a pre-determined price on or after a pre-determined time period
• Tax on Conversion: Conversion of share warrants into shares is treated as a transfer of share warrants, with resultant capital gains taxed as short-term or long-term capital gains
• Tax on Transfer: Transfer of share warrants to another person is treated as a transfer of a capital asset, with resultant capital gains taxed as short-term or long-term capital gains
• Forfeiture of Premium: Forfeiture of premium paid for share warrants has no tax treatment and is ignored for calculation of taxable income

Taxation of Equity Products (Part 4)

• Conversion of Share Warrants: The conversion of share warrants into shares is treated as a transfer of share warrants, resulting in long-term capital gains if the period of holding exceeds 12 months.
• Computation of Long-term Capital Gain: The computation of long-term capital gain arising from the conversion of share warrants into shares involves calculating the difference between the full value of consideration (FMV of shares on the date of allotment) and the cost of acquisition (strike price of share warrants).
• Tax Rate: The tax rate for long-term capital gains is 12.50%.

Tax on Transfer of Share Warrants

• Transfer of Share Warrants: The transfer of share warrants to another person is treated as a transfer of a capital asset, resulting in short-term capital gains if the warrants have been held for less than 12 months.
• Computation of Short-term Capital Gain: The computation of short-term capital gain arising from the transfer of share warrants involves calculating the difference between the full value of consideration (sale price of share warrants) and the cost of acquisition (upfront payment made for share warrants).
• Tax Rate: The tax rate for short-term capital gains is the normal slab rate.

Tax Treatment of Mutual Funds

• Definition of Mutual Funds: Mutual funds are funds that collect money from investors and invest it in the capital market for their benefit.
• Types of Mutual Funds: Mutual funds can be categorized into different types, including equity-oriented funds, fund of funds, and equity-linked savings schemes.
• Equity-Oriented Funds: Equity-oriented funds invest at least 65% of their total proceeds in equity shares of domestic companies listed on a recognized stock exchange.
• Fund of Funds: Fund of funds is a mutual fund scheme that invests in other schemes of mutual funds.
• Equity Linked Savings Scheme (ELSS): ELSS is a category of mutual funds that encourages long-term equity investments and offers tax benefits.

Taxation of Mutual Funds

• Tax on Dividend: Dividends received by a resident unit-holder from a mutual fund are taxable in their hands as per applicable tax rates.
• Tax on Long-term Capital Gains: Long-term capital gains arising from the transfer of equity-oriented mutual funds are taxable at a concessional rate of 12.50% if the amount of capital gain exceeds Rs. 1,25,000.
• Cost of Acquisition: The cost of acquisition of units of equity-oriented mutual funds acquired on or before 31-01-2018 is the higher of the actual cost of acquisition or the fair market value of such asset as on 31-01-2018.
• Grandfathering: The Finance Act 2018 grandfathered the investments made on or before 31-01-2018, exempting long-term capital gains arising from the sale of units of listed equity-oriented mutual funds from tax.

Taxation of Equity Products (Part 5)

• Long-term Capital Gain: If the long-term capital gain exceeds Rs. 1,00,000, it is chargeable to tax at a concessional rate of 10% as per section 112A.
• Cost of Acquisition: For units acquired on or before 31-01-2018, the cost of acquisition is the higher of the actual cost or the lower of the FMV as on 31-01-2018 or the full value of consideration.
• Tax on Long-term Capital Gain: If STT is paid, the tax rate is 12.50%; otherwise, it is charged at normal rates.
• Tax on Short-term Capital Gain: If STT is paid, the tax rate is 15%; otherwise, it is charged at normal rates.

Tax Treatment of Derivatives

• Definition: Derivatives are financial products whose value is derived from an underlying asset.
• Types of Derivative Contracts:
  • Futures Contract: A contract for buying or selling an underlying security or index on a future date at a price specified today.
  • Options Contract: A contract that gives the right, but not an obligation, to buy or sell an underlying security or index on or before a specified date at a stated price.
  • Forward Contracts: A contract between two parties for settlement on a specified date in the future at an agreed price.
  • Swaps: Private agreements between parties to exchange cash flows in the future according to a pre-arranged formula.
• Taxation of Derivative Income: Gains or losses from trading in F&O are taxable under the head 'Profits and Gains from Business or Profession' (PGBP) or income from other sources.
• Nature of Derivative Income:
  • If the activity is offered to tax as business income, the income is classified as non-speculative business income.
  • Losses from F&O can be set-off against any normal business income.
• Computation of Turnover: The total of favourable and unfavourable differences is taken as turnover, and premium received on sale of options is also included in turnover.

TAXATION OF EQUITY PRODUCTS (Part 6)

• Turnover Computation: The computation of turnover is crucial as it determines the applicability of tax audit. In respect of any reverse trades, the difference thereon should also form part of the turnover.
• Presumptive Taxation Scheme: Under Section 44AD, taxpayers can declare profit at the rate of 6% of turnover for receipts in cheque or digital modes, or 8% of turnover for cash receipts, provided the total turnover does not exceed Rs. 2 crores or 3 crores.
• Scheme of Taxation: Income from F&O trading can be offered to tax under the normal scheme of taxation or the presumptive scheme of taxation under Section 44AD.
• Set-off and Carry Forward of Losses: Losses from F&O trading can be set-off against income from other heads, except salary. Unabsorbed losses can be carried forward up to 8 assessment years, but only if the return of income is filed on or before the due date.

Key Concepts

• Business Income: Income from trading in shares and derivatives is taxable as normal business income.
• Tax Rate: The tax rate on business income is applicable as per the tax slab.
• Bonus Stripping: Bonus stripping is a practice where a person buys securities or units just before the record date to get bonus securities or units and sells the original units after the record date at a lower price, incurring a short-term capital loss.

Benefits Not Allowed

• No Deduction under Sections 80C to 80U: No deduction is available under Sections 80C to 80U from long-term capital gains taxable at the rate of 12.50%.
• No Computation in Foreign Currency: The mode of computation of capital gain in foreign currency is not available for long-term capital gains taxable at the rate of 12.50%.

Taxation of Equity Products

• Definition: Taxation of equity products refers to the tax implications on investments in equity shares, mutual funds, and other equity-oriented products.
• Details: The taxation of equity products is governed by the Income-tax Act, 1961, and is subject to change from time to time.

Key Concepts

• Long-term Capital Gains (LTCG): LTCG is applicable when the holding period of an equity product is more than 12 months for listed securities and 24 months for unlisted securities. The tax rate for LTCG is 12.50% for listed securities and 20% for unlisted securities.
• Short-term Capital Gains (STCG): STCG is applicable when the holding period of an equity product is less than or equal to 12 months for listed securities and 24 months for unlisted securities. The tax rate for STCG is 20% for listed securities and slab rate for unlisted securities.
• Section 112A: This section provides for a concessional tax rate of 12.50% on LTCG arising from the transfer of specified securities, including equity shares and units of equity-oriented mutual funds.
• Section 80C to 80U: No deduction is allowed under these sections from LTCG taxable at the rate of 12.50% and STCG taxable at the rate of 20%.
• Section 87A: Rebate under this section is not available from income-tax payable on LTCG covered under section 112A.

Taxation of Specific Equity Products

• Listed Equity Shares: LTCG is taxable at 12.50% if the holding period is more than 12 months.
• Equity Mutual Funds: LTCG is taxable at 12.50% if the holding period is more than 12 months and the investment is more than 65% in listed domestic equity.
• Hybrid Mutual Funds: LTCG is taxable at 12.50% if the holding period is more than 12 months and the investment is less than 65% but more than 35% in listed domestic equity.
• Debt Funds: STCG is taxable at slab rate if the holding period is less than or equal to 12 months.
• REITs and InvITs: LTCG is taxable at 12.50% if the holding period is more than 12 months.

Adjustment of Exemption Limit

• Total Income: The total income of a resident individual or HUF is not chargeable to tax up to the maximum exemption limit.
• Capital Gains: If the total income, as reduced by the amount of capital gains, is less than the maximum exemption limit, the amount of capital gains shall be reduced by that amount that would enable the individual or HUF to fully claim the maximum exemption limit.

Summary of Taxation of Equity Products

• The taxation of equity products depends on the type of product, holding period, and investment amount.
• LTCG is taxable at 12.50% for listed securities and 20% for unlisted securities.
• STCG is taxable at 20% for listed securities and slab rate for unlisted securities.
• No deduction is allowed under sections 80C to 80U from LTCG taxable at the rate of 12.50% and STCG taxable at the rate of 20%.
• Rebate under section 87A is not available from income-tax payable on LTCG covered under section 112A.

Taxation of Equity Products

• Definition: Taxation of equity products refers to the tax implications on investments in equity-oriented funds, ULIPs, and other capital assets.
• Details: The taxation rules vary based on the type of investment, holding period, and date of purchase or sale.

Key Concepts

• Long-Term Capital Gain (LTCG): LTCG is applicable when the holding period exceeds 12 months for equity-oriented funds and 24 months for other capital assets.
• Short-Term Capital Gain (STCG): STCG is applicable when the holding period is less than 12 months for equity-oriented funds and 24 months for other capital assets.
• Tax Rates:
  • For equity-oriented funds bought after February 1, 2021, with an aggregate premium exceeding Rs. 2.50 lakhs, the tax rate is 20% for LTCG and slab rates for STCG.
  • For ULIPs bought after February 1, 2021, with an aggregate premium exceeding Rs. 2.50 lakhs, and investment not in an equity-oriented fund, the tax rate is slab rates for STCG and 12.50% for LTCG.
  • For other capital assets (silver, art, etc.), the tax rate is slab rates for STCG and 12.50% for LTCG.
• Important Notes:
  • Indexation benefit is not available on any asset (except immovable property in certain cases) due to the amendment brought by the Finance Act, 2024.
  • Tax on long-term capital gain arising from transfer of equity shares, units of equity-oriented mutual fund, ULIPs, or units of REITs/InvITs, chargeable to STT, shall not be levied if the aggregate amount of long-term capital gain earned during the year does not exceed Rs. 1,25,000.
  • Income from derivatives is considered as business income or income from other sources.