The DTC (Direct Tax Code) will change the way capital gains are taxed on shares, and although still not finalized, here is my understanding on how capital gains will be imposed under the new DTC regime.
Short term or long term under DTC
The revised DTC discussion paper says that assets will no longer be treated as short term investment or long term investment based on how long you hold them, but the calculation will be done from the end of the financial year in which you own the asset.
Right now, if I buy a share on April 1 2011, and sell it on April 2nd 2012 – it will be treated as a long term capital asset, and the gains will be tax free.
With the introduction of DTC – the holding period will be calculated from the end of the financial year in which it was acquired, so in my example – the holding period will be calculated from March 31st 2012 and I will have to pay short term capital gains on it.
This will probably have the most impact on FMPs that are issued in March of this year to be redeemed in April of the next year to get benefit of double indexation.
Under the new regime this won’t be possible.
Tax Rate on Capital Gains on Shares under DTC
Currently, long term capital gains on shares are tax free, while short term capital gains are charged at 15%. In the new DTC regime – capital gains will be added to the income of the individual and will be taxed at the rate applicable to the taxpayer.
Short term capital gains on shares under DTC
Short term capital gains will be taxed on the tax slab of the investor. Your profit will be added to your income, and then you will be taxed based on whatever slab you fall under.
Long term capital gains on shares under DTC
This is where it becomes slightly complex. Currently you don’t have to pay any capital gains on long term capital gains but in the future you will have to pay tax on the capital gains – but not the whole amount.
The government will allow you to deduct a certain percentage from your capital gain based on some parameter which I think will be how long you held the share for.
So, say you make Rs. 1,000 in gains for shares you held for a year, and the government says that for one year you’re allowed to deduct 50% from your capital gains for the purpose of tax -Â then instead of adding Rs. 1,000 to your taxable income, you will only have to add Rs. 500 to your taxable income.
This will then be taxed at your tax slab.
As far as I know the method of computing the deduction has not been out yet, and the discussion paper only gives examples.
I have been holding off on writing about this because there is still some way to go and not everything has been finalized but there’s a lot of interest in the subject and I think it’s better to at least get started on this topic here.
The source of my article has been this revised discussion paper here, but if you know of a revision after that version, then do let me know and I’ll update my post.