Aug.9 - 22, 1999

Personal Finance


How is capital gain calculated?

by T K Doctor

I have 2000 equity shares (acquired at Rs 10) which I declared in my income-tax return. I have had these shares since 1985. Now, as no gift tax is applicable and such capital receipts are not subject to income-tax, I gifted these shares to my son on Jul. 23,'98, and got them transferred. On Jan.12,'99, he sold these shares at Rs 140 per share. How should the transaction be treated in my income-tax return? What would be the capital gain treatment under gift transaction?
- Suresh Bhatia, New Delhi

Gift tax has been repealed with effect from Jan. 10,'98. It means gift tax will not be payable on gifts made on or after such date. As the gift has been made on Jul.23,'98, you are liable to pay gift tax on the gifted shares under Sec. 4(i)(a) of the Gift Tax Act,1958. For the purpose of computation of taxable gift, the quoted value of the shares on the date of gift shall be taken as market value and, accordingly, gift tax would be charged at the rate of 30% on taxable amount of gift subject to an initial exemption limit of Rs 30,000.

The shares have been sold by your son at Rs 140 per share on 12 Jan.'99. Hence, the capital gain tax liability will arise in the hands of your son for assessment year 1999-2000. To compute capital gain on transferred assets, it is essential to determine whether that asset is a long-term or a short-term asset.

According to Sec. 2(42A), the period of holding of the shares by you shall also be taken into account to determine the long-term or short-term nature of the assets. Therefore, in the given case, the shares disposed of shall be treated as long-term capital asset.

By virtue of Sec. 49(1)(ii), cost to the previous owner is deemed to be the cost of acquisition to the assessee in case where capital asset becomes the property of the assessee under a gift or will. Therefore, the cost of 2,000 equity shares at Rs10 per shares amounting to Rs 20,000, shall be the cost of acquisition. Since the shares are treated as long-term capital assets, your son is entitled for indexation on the cost of acquisition. But as he actually held shares for less than 12 months and sold within the same financial year (for the purpose of indexation, acquisition period before the gift made is not considered), he will lose the benefit of indexation.

This interpretation arises due to the explanation (iii) given in Sec.48 of the Income-Tax Act: 'Indexed cost of acquisition' means an amount which bears to the cost of acquisition the same proportion as the cost inflation index for the year in which the asset is transferred bears to the cost inflation index for the first year in which the asset was held by the assessee or for the year beginning of the first day of Apr.'81, whichever is later.

There is no specific provision in the Act to provide that the previous owner's holding period may be taken into consideration for computing indexed cost of acquisition and indexed cost of improvement. Though there may not be any such intention of legislation, a view may be taken that in the given case your son may not get indexation at all. If such a view, however remote, is likely to find favour, there is an urgent need for an appropriate CBDT clarification and/or amendment to the IT Act.

Actual computation of capital gains for assessment year 1999-2000 shall be as follows:

* Sale consideration
(Rs 140 x 2000)Rs 2,80,000
* Less: Indexed cost of acquisition, i.e., cost to previous owner
(Rs.10 x 2000) Rs 20,000
* Long-term capital gain Rs 2,60,000
* For the purpose of indexation, cost inflation index of the year in which the shares were first held by your son shall be considered, i.e., as shares were held during the FY 9903 indexed cost of acquisition is computed as:

351/351x20,000 =Rs 20,000

In my opinion, the above calculation is not logical because, for the purpose of determining short-/long-term assets, the holding period of previous owner is considered, and the cost of acquisition is also taken as the cost of the previous owner. So, the holding period of the previous owner should also be considered at the time of indexation. But the law does not permit it. The assessee should get indexation from the date of purchase of shares/property, i.e., from 1985. Thus, accordingly, the law should be amended.

The replies are only in the nature of guidelines. The publication is not responsible for any decision taken by readers on the basis of the same. Readers may address their queries on direct taxation to:

T K Doctor, C/o Capital Market, 413, Swastik Chambers, Sion-Trombay Road, Chembur, Mumbai-400 071