TAXATION OF OTHER PRODUCTS

TAXATION OF OTHER PRODUCTS (Part 1)

• Definition: This chapter covers the tax aspects of various financial products, including Employee Stock Option Plans (ESOPs), Sovereign Gold Bonds, Annuities, ETFs, AIFs, REITs, InvITs, and Life Insurance Products.
• Details: The chapter aims to provide an understanding of the tax implications of these products, enabling individuals to make informed investment decisions.

Key Concept 1: Taxation of Employee Stock Option Plans (ESOPs)

• Definition: ESOPs are a type of compensation provided to employees, allowing them to purchase company shares at a discounted price.
• Details:
  • ESOPs are granted to employees as a retention tool and to acknowledge their contributions.
  • The option can be exercised after a vesting period, and the employee can purchase shares at a pre-determined price.
  • Tax implications arise at two stages: when shares are allotted and when shares are sold.

Key Concept 2: Tax Implications of ESOPs

• Definition: The taxation of ESOPs involves calculating the perquisite value and capital gains.
• Details:
  • Perquisite value is calculated as the difference between the Fair Market Value (FMV) of shares on the date of exercise and the amount paid by the employee.
  • Capital gains are calculated when the employee sells the shares, with the FMV on the date of exercise considered as the cost of acquisition.
  • Tax rates and provisions, such as Section 112A and Section 111A, apply to the capital gains.

Key Concept 3: Deferment of Tax on Perquisite Value of ESOPs

• Definition: The Finance Act, 2020, allows for the deferment of tax on perquisite value of ESOPs for eligible start-ups.
• Details:
  • Eligible start-ups, as per Section 80-IAC, can defer the deduction and payment of tax on perquisite value.
  • The start-up must meet certain conditions, including being incorporated after April 1, 2016, and having a total turnover not exceeding Rs. 100 crores.
  • The deferment of tax aims to reduce the burden on employees and start-ups.

Key Concept 4: Sovereign Gold Bonds (SGBs)

• Definition: SGBs are government securities denominated in grams of gold, offering a substitute for holding physical gold.
• Details:
  • SGBs are issued by the Reserve Bank of India on behalf of the Government of India.
  • Investors pay the issue price in cash and receive the market price of gold on redemption.
  • SGBs offer a superior alternative to holding physical gold, with the quantity of gold protected and redeemed in cash on maturity.

TAXATION OF OTHER PRODUCTS (Part 2)

• Sovereign Gold Bonds (SGBs): SGBs are a type of investment where investors can buy gold in a non-physical form, eliminating the need for storage and associated risks.
• Eligibility: SGBs can be held by individuals, trusts, HUFs, charitable institutions, and universities, with a minimum investment of 1 gram of gold and a maximum limit of 4 kg for individuals and HUFs, and 20 kg for trusts and similar entities.
• Interest Rate: SGBs bear an interest rate of 2.50% per annum on the nominal value of the bond, credited half-yearly to the investor's bank account.
• Maturity: SGBs mature after 8 years, with the option for premature redemption after 5 years, and the redemption price is based on the simple average of the closing price of gold of 999 purity for the previous 3 working days.
• Tax Implications:
  • Interest Income: Interest received on SGBs is chargeable to tax under the head "Income from other sources" and taxed as per applicable tax rates.
  • Capital Gain on Redemption: Redemption of SGBs by an individual is not treated as a transfer, and thus, no capital gain arises, but for non-individuals, capital gains are taxable as long-term capital gains if held for more than 12 months.
  • Capital Gain on Transfer: Transfer of SGBs is chargeable to tax under the head capital gain, with long-term capital gains taxed at 12.50% and short-term capital gains taxed at normal slab rates.
• National Pension System (NPS): NPS is a defined contribution retirement savings scheme designed to enable subscribers to make optimum decisions regarding their future through systematic savings during their working life, administered and regulated by the Pension Fund Regulatory and Development Authority (PFRDA).

Taxation of Other Products (Part 3)

• Definition: The section discusses the taxation of returns earned on investments made in the National Pension System (NPS).
• Details: NPS offers a range of investment options and choice of Pension Fund Manager (PFMs) for planning the growth of investments.

Key Features of NPS

• Permanent Retirement Account Number (PRAN): A unique number assigned to each subscriber, which remains with them throughout their lifetime.
• Tier I and Tier II Accounts: NPS provides two types of accounts - Tier I (mandatory retirement account) and Tier II (voluntary saving account).
• Tax Treatment of Contributions: Contributions to NPS are eligible for tax deductions under Section 80CCD.

Tax Treatment of Contributions to NPS

• Employee’s Contribution: Deduction allowed under Section 80CCD(1), subject to a limit of 10% of salary, within the overall limit of Rs. 1,50,000.
• Employer’s Contribution: Taxable in the hands of the employee, with a deduction allowed under Section 80CCD(2), limited to 14% of salary for Central/State Government employees and 10% for other employees.
• Contribution to Tier II Account by Central Govt. Employees: Eligible for tax deduction under Section 80C, with a maximum limit of Rs. 1,50,000.
• Contribution to NPS by Self-Employed Person: Deduction allowed under Section 80CCD, limited to 20% of gross income, within the overall limit of Rs. 1,50,000.
• Contribution to NPS Vatsalya Account by Parent or Guardian of Minor: Eligible for tax deduction under Section 80CCD(1B), subject to an overall limit of Rs. 50,000.

Threshold Limit for Deduction

• Total Deduction under Section 80C, 80CCC, and 80CCD(1): Limited to Rs. 1,50,000.
• Additional Deduction for Contribution to NPS: Rs. 50,000, over and above the limit of Rs. 1,50,000.

Examples

• Example 8: An employee repays a housing loan and contributes to NPS, with a total deduction of Rs. 2,00,000.
• Example 9: Mr. Gopal's employer contributes to NPS, with a deduction available under Section 80CCD(2).
• Calculation of Taxable Income: Step-by-step calculation of taxable income under old and new tax regimes.

Taxation of Employer’s Contribution

• Cap on Maximum Contribution: The Finance Act, 2020 introduced a cap on maximum contribution an employer can make towards recognized provident fund (PF), National pension scheme (NPS), and Superannuation fund.
• Taxation of Excess Contribution: Contribution in excess of Rs. 7,50,000 shall be taxed as perquisite in the hands of the employees.

Taxation of Other Products (Part 4)

• Introduction to NPS Taxation: The National Pension System (NPS) has specific tax implications for both employer and employee contributions, as well as for withdrawals and pensions received.
• Employer Contributions to NPS:
  • Taxation: Employer contributions to NPS are added back as salary and also considered as a perk if they exceed Rs. 7,50,000.
  • Deduction: Deductions for employer contributions are allowed up to 14% of basic salary for central and state government employees, and up to 10% for other employees under the old tax regime.
• Employee Contributions to NPS:
  • Taxation: Employee contributions to NPS are eligible for deductions under Section 80C and 80CCD(1B).
  • Deduction Limits: The deduction limit for employee contributions is up to 10% of salary plus an additional Rs. 50,000 under Section 80CCD(1B).
• Withdrawal from NPS:
  • Partial Withdrawal: Partial withdrawals are exempt up to 25% of the employee's contribution.
  • Final Withdrawal: Final withdrawals are exempt up to 60% of the total corpus at the time of closure or opting out of the scheme.
• Taxation of NPS Corpus:
  • Exemption: 60% of the total corpus is exempt from tax at the time of closure or opting out.
  • Pension Income: Pension received from NPS is taxable in the hands of the recipient.
• Real Estate Investment Trusts (REITs):
  • Introduction: REITs allow investors to invest in diversified portfolios of income-producing real estate.
  • Structure: REITs are structured as hybrid pass-through entities, with certain types of income exempt at the REIT level and taxable at the unit-holder level.
  • Taxation: Rental income, dividend, and interest income distributed by REITs to unit-holders are taxable in the hands of the unit-holders.
  • Exemptions: Rental income earned by REITs is tax-free under Section 10(23FCA) of the Income Tax Act.

TAXATION OF OTHER PRODUCTS (Part 5)

• Definition: This section deals with the taxation of Real Estate Investment Trusts (REITs) and Infrastructure Investment Trusts (InvITs).
• Details: The taxation of REITs and InvITs is similar, with some exceptions.

Key Concepts

• Rental Income: Rental income distributed by REITs to its unit-holders is taxable in the hands of unit holders.
• Interest Income: Interest income earned by REITs from Special Purpose Vehicle (SPV) is exempt at the REITs level, but taxable in the hands of unit-holders when distributed.
• Dividend Income: Dividend received by REITs from SPV is exempt from tax, but taxable in the hands of unit-holders when distributed.
• Capital Gains: Capital gains arising from the transfer of real estate properties by REITs are taxable in the hands of REITs.
• Other Income: All other incomes of REITs are chargeable to tax in the hands of REITs itself.

Taxation of Unit-Holders of REITs

• Pass-through Income: Includes sums distributed by the REIT to unit-holders for which pass-through status is accorded, and the tax liability is directly passed on to the unit-holders.
• Non-Pass-through Income: Includes sums distributed by the REIT to unit-holders, but no pass-through status is accorded, and the REIT is subject to taxation on such distributed sums.
• Capital Gains from Unit Redemption or Transfer: Income arising from the redemption or transfer of units of the REIT is taxable in the hands of the unit-holder.

Taxation of Capital Gain from Redemption or Transfer of Units of REITs

• Redemption of Units: Sum received on redemption of units of REIT is taxable under the head "other sources".
• Transfer of Units: Income arising from the transfer of units of REIT is taxable in the hands of the unit-holder under the head capital gain.
• Tax Rates: The tax on short-term or long-term capital gain depends on the payment of security transaction tax (STT) at the time of transfer of units of business trust.

Applicability of TDS

• REIT to Unit-Holder: REITs are required to deduct tax under section 194LBA while distributing income to unit-holders.
• Tax Rates: The tax shall be deducted at the rates specified, depending on the nature of the distributed income and the residential status of the unit-holder.

Reporting of Income by REITs to its Unit-Holders

• Statement to Unit-Holders: REITs shall furnish a statement to the unit-holders (Form No. 64B) giving the details of the nature of the income paid during the previous year.
• Statement to Income-Tax Department: REITs shall also furnish a statement to the income-tax department (Form No. 64A) giving the details of the nature of the income paid during the previous year.

Infrastructure Investment Trust

• Definition: Infrastructure Investment Trusts (InvITs) invest in infrastructure projects.
• Tax Implications: The tax implications are similar to those of REITs, except for pass-through status relating to rental income.

Summary of Taxability of REITs and InvITs

• Interest from SPV: Exempt in the hands of REITs and InvITs, but taxable in the hands of unit-holders.
• Dividend from SPV: Exempt in the hands of REITs and InvITs, but taxable in the hands of unit-holders if the SPV has exercised the option under Section 115BAA.
• Rental Income: Exempt in the hands of REITs, but taxable in the hands of InvITs.
• Other Sum or Income: Taxable in the hands of REITs and InvITs, but exempt in the hands of unit-holders if taxable in the hands of the business trust.

Taxation of Other Products (Part 6)

• Resident and Non-Resident Taxation:
  • Redemption of units of business trust: Normal tax rate for residents, and income from other sources under Section 56(2)(xii) for non-residents.
  • Short-term capital gains from transfer of units of business trust: 20% under Section 111A for listed units, and applicable rate for unlisted units.
  • Long-term capital gains from transfer of units of business trust: 12.50% under Section 112A for listed units, and 12.50% under Section 112 for unlisted units.
• Alternative Investment Funds (AIFs):
  • Definition: A privately pooled investment vehicle that collects funds from sophisticated investors for investing in accordance with a defined investment policy.
  • Registration: Mandatory registration from SEBI as per SEBI (Alternative Investment Funds) Regulations, 2012.
  • Categories: Categorized into various categories based on operational strategies, objectives, and fund structure.
• Taxation of Category-I and Category-II AIFs:
  • Pass-through Status: Exempt from tax, with investors liable to pay tax on income as if they directly made the investments.
  • Business Income: Taxed in the hands of the AIF, while other income is taxable in the hands of the unit-holder.
  • Taxability of Business Income: Taxed under the head "Profits and gains from business or profession" and exempt in the hands of unit-holders under Section 10(23FBB).
  • Taxability of Other Income: Taxable in the hands of the unit-holder and exempt in the hands of the Investment Fund under Section 10(23FBA).
• Set-off and Carry Forward of Losses:
  • Business Losses: Not allowed to be passed to unit-holders.
  • Non-Business Losses: Allowed to be allocated amongst unit-holders, except where the loss is in respect of a unit held for less than 12 months.
• Applicability of TDS Provisions:
  • No TDS: On payment of income to the investment fund.
  • TDS on Payment to Unit-holders: At the rate of 10% for resident unit-holders and at rates in force for foreign unit-holders.
• Reporting of Income by AIF:
  • Statement to Unit-holders: Furnished in Form No. 64C by the 30th June of the financial year following the previous year.
  • Statement to Income-tax Department: Furnished in Form No. 64D by the 30th November of the financial year following the previous year.
• Taxation of Category-III AIFs:
  • No Pass-through Status: Taxation system same as a normal trust, company, LLP, or any other body corporate.
  • Exemptions and Concessions: Available if the Category-III AIF fulfils conditions for being a specified fund under Section 10(4D).
• Exchange Traded Funds (ETFs):
  • Definition: Like mutual funds that track an index, commodity, or basket of assets, but listed on an exchange and traded like a stock.
  • Gold ETFs:
    • Taxation: Same as physical gold or non-equity oriented mutual funds.
    • Long-term Capital Gains: Taxable at 12.50% plus surcharge and cess after indexation, if held for more than 12 months.
    • Short-term Capital Gains: Taxable at normal rates, if held for 12 months or less.

Taxation of Other Products (Part 7)

• Definition: Taxation of various financial products including capital gains, life insurance, and derivative products.
• Details: The section covers the tax aspects of different products such as equity index ETFs, life insurance policies, unit-linked insurance plans (ULIPs), endowment policies, and reverse mortgage schemes.

Key Concepts

• Capital Gains: Long-term capital gains on equity index ETFs are taxable at 12.50% if held for more than 12 months.
• Life Insurance Policies: Generally exempt from tax, but may be taxable in certain situations such as keyman insurance policies or if the premium exceeds 10% of the sum assured.
• Unit-Linked Insurance Plans (ULIPs): Taxed as capital gains if the policy does not meet the conditions for exemption under section 10(10D).
• Endowment Policies: Maturity proceeds are exempt if the premium does not exceed 10% of the sum assured, but may be taxable as income from other sources if the premium exceeds Rs. 5 lakhs.
• Reverse Mortgage: Exempt from tax under section 10(43) if the transaction is under a scheme made and notified by the Central Government.

Taxation of Life Insurance Products

• Exemptions: Any sum received from a life insurance policy, including bonus, is exempt from tax, except in certain situations.
• Deductions: Premiums payable are allowed as deductions under section 80C, subject to certain limits and conditions.
• Tax Rates: Long-term capital gains on equity-oriented funds in high premium ULIPs are taxed at 12.50%, while short-term capital gains are taxed at 20%.

Taxation of Other Derivative Products

• Reference: The taxation aspects of derivative products are discussed in detail in Section 11.7 under Chapter 11.

Important Points

• Holding Period: The minimum holding period for life insurance policies is 2 years, and 5 years for ULIPs.
• Premium Limits: The premium payable for life insurance policies and ULIPs is subject to certain limits, such as 10% of the sum assured.
• Tax Implications: The tax implications of different financial products can be complex and subject to change, so it's essential to stay up-to-date with the latest regulations and seek professional advice if needed.