How to avoid Paying Short Term Capital Gain Tax ?

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What is Capital Gain tax?

Whenever you sell any property or shares or Mutual funds in India, You need to pay tax on gains you made on these based on their respective tax rates, like Short term capital Gain tax and Long term capital Gain tax.

Short Term Capital Gain tax

As you may be aware when you sell any shares or Equity Mutual Fund units within 1 year of purchasing them, you need to pay 15% of your Gains as Short Term Capital Gain tax.

Example:

if you purchase 500nos of HCL tech at 900 Rs/share on 4th Jan 2019 and sold the same 500 shares on 7th Feb 2019  at Rs. 1000/-. Your total gain from the transaction is  Rs. 50,000/- (500 shares x 100rs gain).

Since sale happened within 1 year of purchase, you are liable for Short term capital gain tax at 15% of Gains. i. e Rs. 7500/- in this example. You might have done many transactions to book profits or due to the requirement of money etc etc, you may calculate accordingly.

How to Avoid paying this Short Term Capital Gain Tax legally?

You can save this tax whenever any good company announces Bonus or split shares to reduce face value.

Whenever a company announces a bonus/ share split, Investor can purchase them and Sell part of the purchased shares immediately after the Bonus /Split date. by way of doing this you are actually booking a virtual loss and this loss can be adjusted against any gain, you made in the same year.

 

Example:

HDFCBANK presently trading at say 2000Rs announces a bonus of 1:1 ratio( just an example), means for every 1 share held you will get 1 share extra on the record date.

Let’s say you purchased 50nos of HDFCBANK at 2000rs after this announcement, your total cost would be Rs. 1 Lac.

On the record date, HDFCBANK share price will fall by 50% to 1000rs from 2000rs, because of 1:1 Bonus. Your 50shares will now be trading at 1000 rs/share. however, you would have received another 50 shares as Bonus in your account.

You can sell initially brought 50 shares at 1000rs/share now, amounting to Rs. 50,000/-, however, your cost of purchasing these 50 shares was at 1Lac Rs.  Thus you are booking a virtual loss of Rs. 50,000/- in this transaction, since this transaction is also short term ( within 1 year) this Rs. 50,000/- loss can be adjusted with any Short term capital Gain you made in the same year.

Summary in a table

TypeUnits of shareShare priceAmountRemarks
Net impactZeroNo Short term capital gain tax
Short term Gain from HCL example
Buy5009004,50,000
SELL50010005,00,000
Gain50,000STCG must be paid on this if not adjusted with loss
Short term Loss from HDFCBANK example
Buy5020001,00,000
SELL50100050,000After Bonus /Split 1:1 ratio
Virtual Loss-50,000This Virtual loss can e adjusted against above Gain
Bonus shares credit to account50100050,000

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Not only this, if you have any un adjusted Loss same can be carry forwarded to the next 8 financial years as per income tax rules. but not vice-versa. You cannot carry forward your gains, you need to pay tax and close in the same year if not adjusted against loss.

  • This is a very good option for people who wish to save Short term gain tax.
  • This will not work, if you already hold shares of the bonus issuing company, because as per income tax rules, First purchased shares will be sold first ( First In First Out principle). So if you already had HDFCBANK shares in this example, you cannot use this option to save tax.
  • Always invest in a Fundamentally strong & good company which you wish to hold for the long term.
  • This can be used for short term gain of Debt fund too!. People with high-income tax slab can get the much higher benefit as Debt fund income in short term is treated as income and will add to your income tax which may be at 30% slab.
  • This virtual loss can be adjusted against any Fixed deposit interest /Liquid fund interest which you might have got during the year.
  • I have personally exercised this option to adjust my short term gain of ESOP shares.
  • When I sold my ESOP shares within 1 year of allotment I had to pay high short term gain tax, since cost is very low for ESOP, I have adjusted with a recent Bonus issue of INFOSYS shares, as such this is working well.
  • I have not taken ESOP example here as it confuses many people who do not know that option.

What to do with Bonus Shares?

  • Remember you are getting these Bonus shares at zero cost.
  • You must hold these bonus shares for at least 1 year, otherwise, this will add to your short term gains again.
  • If you sold after 1 year, this will be treated as Long term Gain, and for gains, up to 1 Lac rupees, there is no long term gain tax.

Hope you all will take the best advantage of this as necessary, All the best

You may also like to read How to pay Zero tax on Income up to 10 Lacs in FY 2018-19 and Zero tax up to 12 Lacs in next FY 2019-20 onwards?

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  1. Good to know this.

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