History of Capital Gains Taxation in India

From debating whether capital gains tax will discourage investment or not, to bringing various provisions in the tax book on how to tax different scenarios, India has come a long way. This story takes a look at the history of capital gains taxation (CGT) in India across three asset classes – equity, real estate and gold – all of which have been creating wealth for long-term investors.

There have been many changes in the CGT of listed equities in India over the past three decades. However only one thing remains constant and that is the holding period of one year to be eligible for long term capital gains (LTCG). Tax rules on real estate and gold have remained largely untouched.

With inputs from Chartered Accountant Dipen Mittal of tax publishing company Taxmann, we set out the key events in the history of CGT starting from 1991, the beginning of a decade of economic reforms in India.

the beginning

Capital gains were taxed for the first time to curb the speculative activity of buying and selling assets in an inflationary environment. The earliest incidence of tax was for capital gains earned during 1 April 1946 and 31 March 1948. 15,000 (see graphic), The tax was abolished in 1949 because it was believed to hinder the trading of stocks and shares.

But the Union Budget of 1956–57 made capital gains tax permanent in India. The then Finance Minister TT Krishnamachari re-introduced CGT with some changes to increase tax revenue. He believed that capital gains were a significant factor in exacerbating economic inequalities. In his budget speech in 1956, Krishnamachari said that the practice of not taxing such profits was “a shortcoming, one dare say, to be rectified in due course. For a developing economy like ours, prompt action is necessary”. Is…”

1992: Accepting Inflation

Fast forward to 1991, capital gains (sale value after deducting the cost of acquisition) were taxed at the applicable slab rates of the individual on all three asset classes- equity, real estate and gold.

But that tax system was criticized because the deduction allowed for computing profits did not take into account inflation over time.

The then finance minister, Manmohan Singh, in the 1992 budget, accepted the Chelliah Committee’s proposal to introduce a system of indexation – which increases the cost of living in proportion to inflation in the economy – for assets over a long period of time.

Since then, for LTCG, the cost of acquisition of the property and the cost of improvements to the property have been linked to the cost inflation index which is notified by the government every year. The Union Budget of 1992 also introduced a special provision for LTCG which levies a 20% tax (with indexation) applicable from April 1993.

The period for which LTCG was eligible was 1 year for shares and 3 years for immovable property and gold.

Subsequently in 1999, former finance minister Yashwant Sinha introduced a 10% tax on LTCG for stocks. Thus, a taxpayer was given the option of levying LTCG tax on property at 20% with indexation or 10% without indexation benefit.

2004: Exemption from LTCG

In a landmark decision in 2004, the then Finance Minister P. Chidambaram abolished the tax on LTCG on sale of listed shares and introduced Securities Transaction Tax (STT), a small tax levied on the value of purchase and sale of securities. Is. Exemption of LTCG from tax can be considered as one of the important factors in deepening equity markets in India.

From 2004 till the re-introduction of LTCG tax on equity in 2018, the number of demat accounts in India increased manifold: from 66.7 lakh to 3.4 crore.

Santosh Joseph, a Bengaluru-based mutual fund distributor, believes that tax exemptions have made investors look at equity as an asset class. He said that discount fixed deposits (FDs) act as an instant comparison of income and equity gains. Joseph said, “While FD interest was taxable with applicability of TDS (tax deducted at source), equity gains including dividends were exempt from tax for a long period, which moved the needle in favor of equities. “

Vishal Dhawan, a registered investment advisor, said the rebate was only one of the factors that drew investors towards the equity markets.

Nevertheless, those who had invested in Indian equities from 2004 until the tax was re-introduced in 2018 would have generated an absolute tax-free return of around 540% (Sensex returns) from capital appreciation , thanks to the LTCG exemption status, which is unlikely to happen again.

In Budget 2004, Chidambaram also reduced the tax rate on short-term capital gains on listed equities to a flat rate of 10% (from taxing at the slab rate), but increased it to 15% in Budget 2008. gave.

2018: End of an era

Former Finance Minister Arun Jaitley in 2018 decided to do away with the exemption available to investors on LTCG on stocks for about 14 years. Since then, LTCG has crossed 1 lakh is being taxed at the rate of 10% without any indexation. However, all gains up to January 31, 2018 were grandfathered, meaning gains made up to such date are exempt from tax.

The STT tax, which was introduced in lieu of the LTCG tax, continues.

tax on dividend income

In 1997, Chidambaram announced the abolition of tax dividends in the hands of shareholders (at the slab rate) and introduced the Dividend Distribution Tax (DDT), which taxes corporates. This was considered a revolutionary change in the history of dividend taxation in India.

The introduction of DDT brought with it a debate on whether to apply the dividend distribution tax rate, which otherwise attracts an exemption or a lower tax rate, to those at the bottom of the pyramid in the tax structure; The rate of DDT was higher than the lower tax rates and lower than the highest tax rates applicable to an investor.

The debate went on for years. In 2016, Jaitley took a middle path and imposed a 10% tax on individuals receiving dividends in excess of 10 lakh per annum retaining DDT. The objective was to prevent high income group individuals from paying tax on dividends at very low rates.

But this measure existed until Finance Minister Nirmala Sitharaman in her second budget speech in 2020 reintroduced the classical system of taxing dividends entirely in the hands of shareholders. It also ended DDT in India.

what 2023 holds

Tax rules on real estate and gold have remained largely untouched since 1992. For both these properties, LTCG (in case of property held for more than 36 months) and STCG are taxed at 20% with indexation benefit and personal income tax slab. rate respectively.

However, in Budget 2017, the holding period for applicability of LTCG in case of immovable property was reduced from 36 months to 24 months.

In the case of equities, the re-introduction of capital gains tax in 2018 has had no impact on the participation of retail investors in stock market transactions. The change in CGT on equities was readily accepted by Indian investors. It is emerging as one of the preferred asset classes for most investors because of its potential to generate inflation-beating returns over the long term.

Going forward, Budget 2023 is expected to bring changes in the capital gains tax regime for various properties, both in terms of holding period and tax rates. We will have to wait and see if 2023 can leave a mark in the history of CGT in India.