Few Points on Income from Capital Gain.

1.    Chargeability u/s 45

Profits or gains arising from the transfer of a capital asset is chargeable to tax in the year in which transfer take place under the head "Capital Gains".

Definitions

Transfer: Sec. 2(47): Transfer in relation to a capital asset includes sale, Exchange, or relinquishment of the asset or extinguishment of any rights therein or the compulsory acquisition thereof under any law or conversion of the asset by the owner in stock-in-trade of a business carried on by him or the maturity or redemption of a zero coupon bond.

Capital Asset: Sec. 2(14): Capital Asset means property of any kind (Fixed, Circulating, movable, immovable, tangible or intangible) whether or not connected with business or profession.

Exclusions —

a.    Stock-in-trade

b.    Personal effects of the assessee

c.    Agricultural land in a rural area

d.    6½% Gold Bonds, 1977 or 7% Gold Bonds, 1980 or National Defence Bonds, 1980 issued by the Central Government

e.    Special Bearer Bonds, 1991 issued by the Central Government.

f.     Gold Deposit Bonds issued under Gold Deposit Scheme 1999

Short-term capital asset: Sec. 2(42A): means a capital asset held by an assessee for not more than thirty six months immediately preceding the date of its transfer. However, in the following cases, an asset, held for not more than twelve months, is treated as short-term capital asset—

a.    Quoted or unquoted equity or preference shares in a company

Circular No. 495 dated 22.9.1987 explaining amendments by Finance Act, 1987 whereby unquoted shares of a private limited company also if held more than 12 months falls in the category of LTCG. Also Refer the Judgment in 120 TTJ 699 for unquoted shares held for less than 36 months.

b.    Quoted Securities

c.    Quoted or unquoted Units of UTI

d.    Quoted or unquoted Units of Mutual Funds specified u/s. 10(23D)

e.    Quoted or unquoted zero coupon bonds

Long-term capital asset: Sec. 2(29A): means a capital asset which is not a short-term capital asset

2. Year of chargeability to tax

Capital gains are generally charged to tax in the year in which ‘transfer’ takes place. Exceptions —

a.    Sec. 45(1A) — Insurance Claim — In the year of receipt.

b.    Sec. 45(2) — Conversion of capital asset into stock-in-trade — In the year of actual sale of the stock.

c.    Sec. 45(5) — Compulsory acquisition — When consideration or part thereof is first received.

Exempt Capital Gains under Section 10

10(33)	:	Transfer of US 64 on or after April 1, 2002
10(37)	:	Compulsory acquisition of Urban Agriculture Land where consideration is received after March 31, 2004.
10(38)	:	Long-term capital gain arising on transfer on or after October 1, 2004 of equity shares or units of equity oriented mutual fund and the STT is paid at the time of transfer. -  Please note that same is taxable under MAT.

3. Computation of capital gains (Sec. 48)

The method of computation depends on the nature of capital asset transferred. It is as follows:—

Short-term Capital Gain	Long-term Capital Gain
A. Find out Full Value of Consideration	A. Find out Full Value of Consideration
B. Deduct:	B. Deduct:
(i) expenditure incurred wholly and exclusively in connection with such Transfer. (ii) Cost of Acquisition (iii) Cost of Improvement (iv) Exemption provided by Ss. 54B, 54D & 54G, 54GA	(i) expenditure incurred wholly and exclusively in connection with such Transfer. (ii) Indexed Cost of Acquisition (iii) Indexed Cost of Improvement (iv) Exemption provided by Ss. 54, 54B, 54D, 54EC, 54ED, 54F & 54G, 54GA
C. (A-B) is short-term capital gain	C. (A-B) is a long-term capital gain

4. Full value of consideration for transfer of land or building or both: Sec. 50C

Higher of the followings:—

a.    Full value of the consideration received or accruing

b.    Value adopted or assessed (w.e.f. 1st day of October, 2009 the word "or assessed" shall be substituted by "or assessed or assessable") by any authority of a State Government for the purpose of payment of stamp duty in respect of such transfer.

5. Indexed Cost of acquisition = Cost of acquisition * Cost inflation index for the financial year In which the asset is transferred/ Cost inflation index for the first financial year in which the asset was held by the assessee or the year beginning on 1.4.1981, whichever is later or the year of Improvement of the asset

However, in case of Bonds, Debentures except capital indexed bonds depreciable assets, and for non-residents even if they are long term capital assets the benefit of indexation is not available.

Cost inflation Index

Financial Year	Cost Inflation Index
1981-82	100
1982-83	109
1983-84	116
1984-85	125
1985-86	133
1986-87	140
1987-88	150
1988-89	161
1989-90	172
1990-91	182
1991-92	199
1992-93	223
1993-94	244
1994-95	259
1995-96	281
1996-97	305
1997-98	331
1998-99	351
1999-2000	389
2000-01	406
2001-02	426
2002-03	447
2003-04	463
2004-05	480
2005-06	497
2006-07	519
2007-08	551
2008-09	582
2009-10	632
2010-11	711
2011-12	785
2012-13	852
2013-14	939

Computation of Long Term Capital Gains on Shares both Equity and Preference, Listed or Unlisted and Debentures:

Capital Assets	If transaction is covered by STT at the time of transfer	IF it is not covered by STT
		Long Term
		Without indexation	With indexation
Listed equity shares covered by Sec. 10(36)	0%	0%	0%
Listed equity shares not covered by Sec. 10(36)	0%	10%	20%
Unlisted equity shares	NA	NA	20%
Listed Preference shares	NA	10%	20%
Unlisted Preference shares	NA	NA	20%
Listed Debenture	NA	10%	NA
Unlisted Debenture	NA	20%	NA

CAPITAL GAIN IN CASE OF CONVERSION OF A PRIVATE COMPANY OR AN UNLISTED PUBLIC COMPANY INTO AN LLP:

Sec. 47(XIIIb)

This section provides that conversion of a private company or unlisted public company into an LLP in accordance with Secs. 56 and 57 of the LLP Act will not be regarded as transfer, if following conditions are fulfilled :

a.    All the assets and liabilities of the company become the assets and liabilities of the LLP.

b.    All the shareholders of the company become the partners of the LLP and their profit sharing ratio and the capital contribution in the LLP are in the same proportion as their shareholding in the company on the date of conversion.

c.    Shareholders of the company do not receive any consideration or the benefit, directly or indirectly, other than share in the profit and capital contribution in the LLP.

d.    For a period of at least five years from the date of conversion, the erstwhile shareholders of the company in aggregate are entitled to at least 50% of the profits of the LLP.

e.    The total sales, turnover or gross receipts in the business of the company in any of the three years preceding the year of conversion do not exceed Rs. 60 lakhs.

f.     For a period of three years from the date of conversion, the accumulated profits of the company on the date of conversion are not paid to any partner of the LLP, whether directly or indirectly.

Sec. 47A (4)

This section provides that if any of the conditions in (a) to (f) above are not complied with, then the profits arising from transfer of capital assets or intangible assets on conversion of the company to the LLP not charged under Sec. 45 shall be taxed in the hands of the LLP in the year in which the conditions are violated.

Sec. 49

It provides that cost of acquisition of the capital assets acquired by the LLP in the process of conversion shall be deemed to be the cost for which the converted company had acquired the assets.

CAPITAL GAINS - VARIOUS EXEMPTIONS DETAILS

		Section	54		54B		54D		54EC
(a)		Kind of assets transferred	Long-term Capital Assets being House Property used for residential purpose		Land used for agricultural purposes		Land and Building or any right therein used by an industrial undertaking compulsorily acquired under any law		Any Long Term Capital Assets
(b)		Eligible Assessees	Individual & HUF		Individual & HUF		All		All
(c)		Condition of period of holding of original Asset	3 years		2 years		2 years		1 year for Shares, Listed Securities, Units of UTI/ Mutual Fund specified u/s 10(23D), Zero coupon bonds, 3 years for any other capital assets
(d)		Condition of utilization of consideration	Purchase of Residential House within 2 years after or 1 year prior to date of transfer: or construction of residential house within 3 years from the date of transfer		Purchase of Agricultural Land within 2 years from the date of transfer		Purchase/construction of land, building, or any right therein within 3 years from the date of transfer by way of compulsory acquisition for the purpose of shifting/ re-establishing/ setting up another industrial undertaking		Investment of whole or any Part of Capital Gain in ‘specified assets’ as stipulated in the section. Investment should be made within 6 months from the date of transfer
(e)		Exempt Amount	The amount of gain or, the cost of new asset, whichever is less		Lower of the Capital Gain or the Cost of acquisition of new agricultural land		Lower of the Capital Gain or the Cost of acquisition of new land and building		Lower of the Capital Gain or the investment in specified assets subject to a maximum of Rs. 50 lakhs.
(f)		Other requirements	See notes 1, 2 & 4		Assessee or his parents must have used the land for agricultural purpose for preceding two years		See notes 1, 2 & 4 Must have been used for business of industrial undertaking for preceding 2 years		See notes 1, 2 & 4 Rebate u/s 88 or deduction u/s 80C not to be granted for the same investment. New Asset must be retained for a period of 3 years
	Section			54F		54G		54GA
(a)	Kind of asset transferred			Any long term capital asset other than residential house		Land or Building or any right therein or Plant or Machinery in Urban Area used for the business		Land or Building or any right therein or Plant or Machinery in Urban Area used for the business
(b)	Eligible Assessees			Individual & HUF		Industrial undertakings in urban area shifting to an area other than urban area		Industrial undertakings in urban area shifting to any Special Economic Zone
(c)	Condition of period of holding of original asset			1 year for Shares, Listed Securities, Units of UTI/ Mutual Fund specified u/s 10(23D), Zero-coupon bonds, 3 years for other capital assets		No period specified		No period specified
(d)	Condition of utilization of consideration			Purchase of Residential House within 2 years after or 1 year prior to date of transfer; or construction of residential house within 3 years from date of transfer		Acquire similar assets & incur expenses on shifting original asset, within 1 year before, or 3 years from the date of transfer		Acquire similar assets & incur expenses on shifting original asset, within 1 year before, or 3 years from the date of transfer
(e)	Exempt Amount			Refer Note No. 5		The amount of gain or the aggregate cost of new asset, and shifting expenses, whichever is lower		The amount of gain or the aggregate cost of new asset, and shifting expenses, whichever is lower
(f)	Other Requirements			Must not own more than 1 residential house other than the new asset on the date of transfer of original asset		Must have been shifted to non-urban area. See Notes 1 & 2		See Notes 1, 2, 3 and 4

NOTES

1.    In case New Asset is transferred before 3 years from date of purchase/construction, the Capital Gains exempted earlier will be chargeable to tax in year of transfer of new asset.

2.    In order to avail the exemption, gains are to be reinvested, before the due date of return u/s 139(1). If the amount is not so reinvested, it is to be deposited on or before that date in account of specified bank/institution and it should be utilised within specified time limit for purchase/construction of new asset.

3.    U/s 54F Capital Gains exempted earlier shall be chargeable to tax — if a) If the assessee purchases within 2 years or constructs within 3 years any residential house other than the one in which reinvestment is made & b) If the new asset is transferred within a period of 3 years from the date of its purchase/construction.

4.    As per Section 54H, where the transfer is by way of compulsory acquisition, the period available for acquiring the new asset u/ss. 54, 54B, 54D, 54EC and 54F shall be computed from the date of receipt of compensation and not the date of transfer.

5.    If cost of new house is more than the net consideration of original asset, the whole of the gains is exempt. If cost of specified asset is less than net consideration, proportionate amount of the gains will be exempt i.e. Capital Gain X cost of New Asset/Net consideration on sale of asset.

Frequently Asked Questions

I have sold a house for Rs.5 lakh, which had been purchased by me 5 years ago for Rs.2 lakh. Am I required to pay any tax on the profit of Rs.3 lakh earned by me?

Yes. This profit, which is called capital gain, is taxable subject to certain conditions.

Sale of what kind of assets attracts capital gains?

All transfer of capital assets attracts capital gains. Capital assets are those properties that have an enduring value and they are not consumable.

What does transfer mean?

Transfer means giving up your right on an asset. It includes sale, exchange, compulsory acquisition under any law, relinquishment etc.

Does the capital gain tax differ according to period of holding an asset?

Yes. If assets are held for more than 36 continuous calendar months prior to transfer they are called long-term assets and their transfer results in long-term capital gain that is taxed at the rate of 20%. The only exception to this general rule is in respect of securities for which the period of holding prior to transfer is 12 months to be considered as long-term capital asset and the rate of tax is nil, provided securities transaction tax has been paid. Any transfer of assets held for lesser than these periods would result in short-term capital gain. This is taxed at normal rates in respect of all assets except securities. For securities the rate of tax is 10% along with payment of securities transaction tax.

Can I get any benefit for erosion in the value of money over the years while calculating my gain on sale of asset?

Yes. To neutralize the erosion of value of money over the years the cost index for the year of sale is factored in while calculating the cost of investment so that the impact of inflation is neutralized and only the actual gain to the seller is brought to tax.

I have sold a property and made profit. If the sale amount is reinvested in purchase of a site, is my profit exempt from tax?

No. For getting exemption the nature of property sold is relevant. If you have sold a residential property, the gain received on sale should be reinvested in another residential property {which may include land and building] to qualify for exemption {section 54]. Even if you have sold a property other than a residential property, you will qualify for exemption only if the net consideration is reinvested in a residential property which may include land and building{section 54F].

If I sell my land will I be taxed?

Gain from sale of non-agriculture land is taxable as capital gain. Gain from sale of agriculture land is taxable only if it is located within 8 kilometers from the urban limits.

Derivatives are contracts with short duration. Due to the nature of transactions, profit is more likely considered as income from business rather than capital gain

I trade daily in the future and options (F&O) segment. I buy and sell on the same day or within a month. So I think this is called short-term capital gain (STCG). Am I supposed to pay income tax on this gain? If yes, how much? One of my friends told me that I do not have to pay income tax on STCG if the trading is in the F&O segment of the NSE. If it is only in the cash segment, I have to pay income tax. Is this right?

From assessment year (AY) 2006-07 (financial year 2005-06), transactions in derivatives are not considered as speculative transaction, as per Section 43 (5) of Income Tax (IT) Act, 1961. Therefore, income from F&O may be shown as non-speculative business income and it will be taxed according to the slab rate applicable to the particular AY. However, to consider transaction as non-speculative, it should be carried out electronically on a screen-based system through a stock broker or a sub-broker or other intermediary registered under Section 12 of the Securities Exchange Board of India Act, 1992. The transaction should be supported by time-stamped contract note, indicating the unique client identity number and permanent account number (Pan). The transaction should be carried out on a recognised stock exchange, i.e., NSE, BSE, MCX Stock Exchange, or the United Stock Exchange of India. The securities transaction tax should be paid.

Derivatives may be held as stock in trade or capital assets. Therefore, profit or gain from transaction of derivatives will be taxed under the head, ‘Profit and gain of business or profession' or ‘Capital gain', which depends on the nature of the asset held by a person. The dividing line is very thin. The issue should be determined by facts and circumstances of each case. Hence, it has to be decided by considering some of the relevant factors such as the length of the holding period, intention, regularity or frequency, source of funds, the administrative set-up, use of the sale proceeds, circumstances leading to the sale, accounting treatment, manner of acquisition, proportion of such income, and the overall time devoted for the activity.

Treatment under any of the heads has its own advantage and disadvantage. Derivatives are contracts with short duration. If profit or loss is considered under the head, ‘Capital gain', then it will be STCG only. However, due to the short duration and the nature of transactions in derivatives, it is more likely considered as income from business rather than capital gain. Any gain from F&O is taxable, whether it is derived from trading on the NSE or any other exchange. Hence, in your case, it seems to be income from business because you are trading daily in the F&O segment of the NSE. Accordingly, it will be taxed as per the slab rate applicable for the AY.

Treatment of Capital Gain for NGO.

BACKGROUND

01 The definition of income under section 2(24) includes Capital Gains and therefore for the purposes of section 11, Capital Gains should form part of the income and consequently it should be treated at par with any other income under section 11. Section 11(1A), which deals with treatment of Capital Gains, was not there during the inception of the Act. In the absence of any provision related with capital gains, all Charitable or Religious Organisations were required to apply the Capital Gains for charitable purposes under the provisions of section 11(1)(a). The requirement of utilising capital gains on fulfillment of the objects of the organisation resulted in depletion of the corpus. Necessity was felt to allow an option to the Charitable and Religious Organisations, whereby they can re-invest the sale proceeds from Capital Assets in new Capital Assets, so that, in the long run, the corpus would remain intact. The concerns of Charitable Organisations were recognised in Circular No. 2-P(LXX-5), dt.15-05-1963. In this circular, it was stated that when the capital assets, sothat forming part of the corpus are transferred with a view to acquire further capital assets for the use and benefit of the Trust, the amount of Capital Gains should be regarded as having been applied for religious and charitable purposes within the meaning of section 11(1). Further, CBDT Circular No. 52, dt. 30-12-1970, clarified that the intent of the legislature was not in favour of imposing tax liabilities in cases where the Capital Gains as well as the consideration is applied for acquisition of new Capital Assets. The Charitable Organisations were afforded an advantage in getting an option of claiming benefits of re-investment with regard to Capital Gains.

INSERTION OF SECTION 11(1A)

02 The Finance (No.2) Act, 1971, inserted sub-section (1A) in section 11 regarding the treatment of Capital Gains. It provided that the Capital Gains will be deemed to have been utilised for the purposes of section 11(1)(a), if the net consideration received is re-invested in another capital asset. The insertion of section 11(1A) seemed to be the logical outcome of the two circulars issued earlier, as discussed above. More so, because the newly inserted sub-section (1A) in 1971 was made retrospectively effective from 01-04-1962 i.e. the date of commencement of the Act.

THE PROVISIONS RELATED WITH CAPITAL GAINS

03 Section 11(1A) first caters to two main situations, viz.

(i) where the capital asset is property held under a Trust wholly for charitable or religious purposes;

(ii) where the capital asset is held under a Trust in part only for such purposes

Within these main situations, the provision also caters to the following sub-situations:

(i) where the whole of the net consideration is utilised in acquiring the new capital asset;

(ii) where only a part of the net consideration is utilised for acquiring the new capital asset.

In respect of each of these sub-situations under the main situations, the section spells out the quantum of income which will be deemed to have been applied to charitable or religious purposes.

QUANTUM OF GAINS DEEMED TO HAVE BEEN APPLIED

04 The computation will depend upon whether the property is wholly held under the Trust or partially held under the Trust.

05 Where property is wholly held under the trust : Under clause (a) of sub-section (1A), Capital Gains arising from transfer of Capital Assets shall be deemed to have been applied for charitable or religious purposes as indicated in the chart given below:

Situation	The quantum of capitail gains deemed to have been applied for charitable or religious purpose
Whole of net consideration is utilised in acquiring the new capital asset Only a part of the net consideration is utilised in acquiring the new capital asset	The whole of capital gains Capital gains equal to excess of utilised amount over cost of the transferred asset. [In effect, capital gains minus shortfall in reinvestment.]

Illustration : 1 - Showing treatment of capital gains

The following illustration clarifies the treatment of capital gains under section 11(1A).

Cost of the Asset		Rs. 40,000/-
Sale Proceeds/Net consideration		Rs. 1,00,000/-
Re-investment in Capital Assets	(i)	Rs. 80,000/-
	(ii)	Rs. 1,00,000/-

The computation of capital gain deemed to have been applied for the purposes of section 11(1)(a) is as under :

		(i)	(ii)
(i)	Net consideration	1,00,000	1,00,000
(ii)	Cost of the Asset	40,000	40,000
(iii)	Capital gains	60,000	60,000
(iv)	Investment in New Asset	80,000	1,00,000
(v)	Shortfall in re-investment (i) - (iv)	20,000	Nil
(vi)	Capital gains deemed to have been applied for charitable purposes (iii) - (v)	40,000	60,000

06 Where property is partly held under the trust - As per clause (b) of section 11(1A), when Capital Gain is derived out of property partly held for charitable or religious purposes, then appropriate fraction of the net consideration is required to be re-invested in new capital assets. Here, it may be noted th at income from Trust property partly held for religious or charitable purposes is eligible for exemption under section 11(1)(b) provided such Trust was created before the commencement of the Act.

Situation	The quantum of capitail gains deemed to have been applied for charitable or religious purpose
Whole of net consideration is utilised in acquiring the new capitmal asset Only a part of the net consideration is utilised in acquiring the new capital	The whole of capital gains Capital gains equal to excess of apropriate of utilised amount over appropriate fraction of cost of transferred asset.

Illustration : 2 - Showing treatment of capital gains

The following illustration clarifies the treatment of Capital Gains under section 11(1A). [It has been assumed that 50% of the income from the asset was used for charitable purposes]

Cost of the Asset		Rs. 40,000/-
Sale Proceeds/Net consideration		Rs. 1,00,000/-
Re-investment in Capital Assets	(i)	Rs. 80,000/-
	(ii)	Rs. 1,00,000/-

The computation of capital gain deemed to have been applied for the purposes of section 11(1)(b) is as under :

		(i)	(ii)
(i)	Net consideration	1,00,000	1,00,000
(ii)	Cost of the Asset	40,000	40,000
(iii)	Capital gains	60,000	60,000
(iv)	Investment in New Asset	80,000	1,00,000
(v)	Appropriate fraction of (ii)	20,000	20,000
(vi)	Appropriate fraction of (iii)	30,000	30,000
(vii)	Appropriate fraction of (iv)	40,000	50,000
(viii)	Capital gains deemed to have been applied for charitable purposes (vii) - (v)	20,000	30,000

CAN CAPITAL GAINS BE APPLIED FOR CHARITABLE PURPOSES

07 The Capital Gains can also be applied for charitable purposes. It is at the discretion of the organisation to apply the Capital Gains for charitable purposes or towards purchase of a new Capital Asset. The definition of income under section 2(24), includes Capital Gains and therefore, income for the purposes of section 11(1)(a) includes Capital Gains. The historical background under which section 11(1A) was enacted and the statute as it existed before 01-04-1971 provides ample testimony to the fact that capital gains form a part of the income available for application under section 11(1)(a). Circular No.2-P(LXX-5), dt. 15-05-1963 and Circular No. 72, dt. 06-01-1972 discussed the problems faced by the organisations and the gradual erosion of the corpus, prior to the insertion of section (1A). The purpose behind insertion of section (1A) was to provide an option to the assessee, in order to keep its corpus intact. This option did not imply withdrawal of exemption of Capital Gains under section 11(1)(a). An organisation, therefore can utilise the Capital Gains for charitable purposes under section 11(1)(a). The portion of Capital Gains which was not considered as deemed to have been applied for charitable purposes under section 11(1A), can also be applied for charitable purposes under section 11(1)(a).

OVERALL SUMMARY

08 To Sum up the discussion :

i) ‘Income’, as defined under section 2(24), includes Capital Gains,. Therefore, for the purposes of section 11(1)(a), Capital Gains are also considered as a part of the income.

ii) Since, Capital Gains are also considered as a part of the income, therefore, they can be applied for charitable or religious purposes.

iii) But, if Capital gains are also applied for charitable and religious purposes, then it will amount to depletion of the Corpus of the organisation. In order to overcome this disadvantage, the Income tax act has provided another option under section 11(1A),by virtue of which Capital Gains can be re-invested in another Capital Asset without loosing exemptions.

iv) Under section 11(1A), if the entire amount of net consideration is invested in another Capital Asset then, the entire Capital Gain will be deemed to have been applied for Charitable or Religious purposes.

v) Under section 11(1A), if a part of the entire amount of net consideration is invested in another Capital Asset then, the appropriate fraction of the Capital Gain will be deemed to have been applied for charitable or Religious Purposes.

vi) The Capital Gain have to be re-invested in another Capital Asset in the same year, unless the assessee exercises the option available under explanation to section 11(1), to apply the income in subsequent year.

vii) Investment in fixed deposit is considered as an investment in Capital Asset. The CBDT instruction no. 883, dated 24.09.1975, specifies that, such fixed deposits should be for 6 months or more. But, various High Courts have held that, such 6 months time limit is legally not valid. The nature of asset is important and not the time frame.

viii) No time limit has been provided under section 11(1A), for retention of the new asset. Under the prevailing provisions each year’s income and application are treated separately for the purposes of exemptions. Therefore, if the asset is held till the end of the relevant previous year and is disposed of in the subsequent year, then the exemptions cannot be denied nor can they be withdrawn in the next year.

Claim Of Non-Residents To Avail Reduced Rate Of Capital Gains From Sale Of Shares Established

Introduction:

The recent ruling of the Hon'ble High Court of Delhi in the case of Carin U.K. Holdings Limited Vs. Director of Income-Tax¹ has been highly welcomed and appreciated. Through this judgment, the Hon'ble High Court has provided benefit of reduced rate of capital gains tax on transfer of shares of an Indian listed company to non-resident shareholder. In the present case, Carin U.K Holdings Limited transferred equity shares of Carin India Limited to Petronas International Corporation Limited through an of-market transaction, which resulted in long term capital gains in the hands of Carin U.K Holdings Limited [taxpayer in present case]. The taxpayer had originally requested a ruling from the Authority of Advance Ruling (AAR) on the applicability of reduced rate. The AAR held that, to benefit from the concessional rate as provided under the Income-tax Act, 1961 (ITA), the taxpayer has to be eligible to adjust the original acquisition costs of the shares using cost inflation index . The taxpayer filed a Special Leave Petition before the Supreme Court (SC). The SC, by its order dated 30 July 2012, directed the Taxpayer to first approach the appropriate High Courts.

Issue before the High Court:

The main issue before the High Court was whether the benefit of the 10% concessional tax rate on long-term capital gains is available to a non-resident where listed equity shares are transferred in an off- market transaction.

Observation and Decision:

1. Section 48 and section 112 of the Income Tax Act were discussed at length.

2. Section 48 provides for mode of computation of capital gains. As per the said section, The income chargeable under the head "Capital gains" shall be computed, by deducting from the full value of the consideration received or accruing as a result of the transfer of the capital asset the following amounts, namely:

(i) expenditure incurred wholly and exclusively in connection with such transfer;

(ii) the cost of acquisition of the asset and the cost of any improvement thereto:

1Provided that in the case of an assessee, who is a non-resident, capital gains arising from the transfer of a capital asset being shares in, or debentures of, an Indian company shall be computed by converting the cost of acquisition, expenditure incurred wholly and exclusively in connection with such transfer and the full value of the consideration received or accruing as a result of the transfer of the capital asset into the same foreign currency as was initially utilised in the purchase of the shares or debentures, and the capital gains so computed in such foreign currency shall be reconverted into Indian currency, so however, that the aforesaid manner of computation of capital gains shall be applicable in respect of capital gains accruing or arising from every reinvestment thereafter in, and sale of, shares in, or debentures of, an Indian company:

Provided further that where long-term capital gains arises from the transfer of a long-term capital asset, other than capital gain arising to a non-resident from the transfer of shares in, or debentures of, an Indian company referred to in the first proviso, the provisions of clause (ii) shall have effect as if for the words "cost of acquisition" and "cost of any improvement", the words "indexed cost of acquisition" and "indexed cost of any improvement" had respectively been substituted:

The first proviso to section 48 is applicable when a non-resident had purchased an asset being a share or debenture with foreign currency, converted into Indian rupee. It stipulates that on transfer of the said share or debenture the consideration received in Indian rupee should be reconverted into the same foreign currency. Therefore the first proviso to section 48 of the ITA enables a non-resident to neutralize an exchange rate fluctuation when computing long term capital gains. Both provisos operate independently and have a different purpose and objective.

The second proviso to section 48 is applicable to all others including non-residents, who are not covered by the first proviso and they are entitled to benefit of cost of indexation which neutralize inflation and therefore second proviso enables both residents and non-residents (not governed by the first proviso to section 48) to neutralize the effect of inflation by deducting the indexed costs of acquisition of the shares in computing longterm capital gains . Both these provisos have a distinct area of operation and have different purpose and objective.

3. Further, clause (c) sub-section (iii) section 112 of the Income tax Act provides as follows: The amount of income tax on long term capital gains arising from the transfer of a capital asset, being unlisted securities, calculated at the rate of 10 % on the capital gains in respect of such asset as computed without giving effect to the first and second proviso to section 48.

Explanation to section 112 provides that where the tax payable in respect of any income arising from the transfer of a long-term capital asset, [being listed securities or unit] [or zero coupon bond], exceeds 10% of the amount of capital gains before giving effect to the provisions of the second proviso to section 48, then, such excess shall be ignored for the purpose of computing the tax payable by the assesse. The above proviso gives a beneficial option to taxpayers on transfer of long-term capital asset being listed securities, units or zero per cent coupon bonds. They are liable to pay tax @ 10% on the amount of capital gains before giving effect to the second proviso of section 48, i.e. ,the assesse have the option to pay tax @10% without benefit of inflation indexation.

4. As per the Hon'ble High Court of Delhi, the Income Tax Act, 1961 did not categorically provide that a taxpayer avails the benefits of first proviso to section 48 is not entitled to benefit of 10% tax rate. The intention of the legislature is to tax long-term capital gains on listed shares at 10% rate, without the benefit of indexation under the second proviso to section 48 of the Act

Conclusion:

The High Court decision has given a positive direction to the controversies on the provision of concessional rate on transfer of listed securities in an off-market transaction by a non-resident.

Domain of provisos (1) and (2) to section 48 are different, one provides for setting off inflation rate fluctuations and the second provides for lower rate of tax (without availing the benefit of indexation). Section 112 provides respite in form of lower tax rate of 10% in respect of listed securities, without the benefit of indexation under second proviso to section 48 and the said section is equally applicable for resident as well non-resident taxpayers. Whereas first proviso provides relief from inflation on long term capital gains from currency fluctuations, therefore court has rightly interpreted that both provisos to section 48 are exclusive and independent of each other.

Footnote

1. [Writ Petition (Civil) No. 6752/2012