Dear Readers,
We all have heard of the latest amendment in the Equity Capital Gain Tax structure in the Budget announced on 1St February, 2018. The Union Budget has particularly shook the Equity Investors especially the ones who used to enjoy Tax Free Long Term Capital Gains (LTCG) on Equity Stocks/ Funds.
But is this change in the Taxation Provision really affect the Investors negatively? If Yes, then in what ways and to what extent?
Well, we at Richvik, present a small article on Impact of LTCG Tax and how can one avoid it’s negative impacts.
Q) How are the LTCG on Equity charged?
Earlier, Long Term Gain on Equity Products such as shares or Equity Based Mutual Fund schemes ( Long Term here means a period exceeding 1 year), were exempt from the purview of Tax.
However, the Budget 2018 brought an amendment to this rule and now any gains on sale of Equity Stocks/ MFs held for a period exceeding 1 year from the date of purchase exceeding Rs. 1,00,000 in any particular financial year will be taxed @ 10% plus cess, i.e. effectively 10.04%. The Gains will be computed based on the NAV as on 31.01.2018.
In one way, the rate of 10% is better than the highest Tax Slab rate of 30%, and even lower then short term capital gain of 15% on equities.
Now that Equity funds are not given the benefit of Indexation, the distinct feature between Equity and debt has narrowed down to some extent, making debt funds and Fixed Monthly Plans more attractive now.
Let us see few points of caution which will help us maintain decent returns in spite of the newly introduced tax:
- Continue your ELSS Investments:
ELSS can still yield higher post- tax return. Let us look at the following chart to understand this well.
| PARTICULARS | 1- YR | 3-YRS | 5-YRS | 10-YRS |
| Amount Invested | 100,000 | 100,000 | 100,000 | 100,000 |
| Return per Annum | 21.21% | 11.41% | 18.15% | 9.67% |
| Final Value (Rs.) | 121210 | 138284 | 230334 | 251697 |
| Capital Gains (Rs.) | 21210 | 38284 | 130334 | 151697 |
| ASSUMING THIS IS THE ONLY GAIN FOR THE YEAR | ||||
| Exempted gains (Rs.) | 100,000 | 100,000 | 100,000 | 100,000 |
| Taxable gains | – | – | 30,334 | 51,697 |
| Tax @ 10.4% | – | – | 3,155 | 5,376 |
| Post – Tax Value | 121,210 | 138,284 | 227,179 | 246,321 |
| Post – Tax Returns | 21.21% | 11.41% | 17.83% | 9.43% |
| IF ALREADY EXHAUSTED CAPITAL GAIN EXEMPTION | ||||
| Taxable Gains | 21,210 | 38,284 | 130,334 | 151,697 |
| Tax @ 10.4% | 2,206 | 3,982 | 13,555 | 15,776 |
| Post – Tax Value | 119,004 | 134,302 | 216,779 | 235,921 |
| Post – Tax Returns | 19% | 10.33% | 16.73% | 8.96% |
Source: Economic Times
Analysis of the Table: Here we can clearly see, that in spite of applicability of capital gain Tax, the post-tax returns are over the long term period have fared well. Thus for aggressive investors, ELSS still remains lucrative as the post-tax return will be greater than PPF, PF, NSC, Tax-Saving FDs and high cost ULIPs.
- Do not fall for ULIPs and Insurance Policies:
It is generally recommended to go for investment options giving taxable returns performing better than going for options giving returns tax-free but lower returns. Instead of going for Term Insurance or ULIPs, it is better to go for Term Plans – which are good options for insurance and Mutual Funds are good for Investment.
- Arbitrage is still a better option for Short Term despite the Tax:
Equity arbitrage funds are the funds that offers ‘debt like return and equity like taxation benefits’. They too are hit by the new tax. The returns from equity arbitrage funds are comparable with those of short-term and ultra-short term debt funds.
The tax rate is still attractive for equity arbitrage funds. While debt funds investors pay a total DDT of 29.12% after 1 April, it is only 10.4% for equity arbitrage funds. Similarly, the tax advantage is huge for the 1-3 years holding period also. The tax arbitrage differential will come down, but equity arbitrage funds will still remain a good option for short-term investments,”
- Time to invest more in Debt Funds:
Now since the Tax disparity has been reduced between Equity and Debt funds, it is advisable to go for Debt funds. Though equity funds still retain the upper hand since the minimum holding period for long-term gains is one year compared with three years for debt schemes. Let us have a look at how Taxation on Debt Funds work:
| PARTICULARS | AMOUNT | AMOUNT |
| Annual Rate of Inflation | 5% | 6% |
| Amount Invested | 1,000,000 | 1,000,000 |
| No of Years of Investment | 5 | 5 |
| Rate of Interest | 8% | 8% |
| Maturity Amount | 1,469,328 | 1,469,328 |
| Indexed Cost of Acquisition | (1,276,282) | (1,338,226) |
| Taxable Capital Gains | 193,046 | 131,102 |
| Tax after Indexation @20.8% | 40,154 | 27,269 |
| Post- Tax returns after Indexation | 1,429,174 | 1,442,059 |
Analysis of the Table: We can understand how Indexation works here and how debt fund are beneficial for us. Thus it is highly recommended to seek help of your financial planner to invest in Debt Funds so that your return on investment portfolio can increase without compromise in the safety of capital.
To know more on Investment, feel free to contact us.