TAX IMPACT ON EQUITY INVESTING

[K.Karthik Raja]

Equity - TAX IMPACT ON EQUITY INVESTING (FOR FINANCIAL YEAR 2006-07)

Tax impact on your dividend income

Dividend received on your equity investment is tax-free in your hands.
However, companies need to pay a dividend distribution tax at the rate
of 14.025 per cent (12.5 per cent for tax + 2 per cent for education
cess + 10 per cent for surcharge) on the dividend declared and paid
out to shareholders.


Tax impact on your capital gains (sale of shares at a profit)

When you hold your equity investments for less than 12 months before
selling them, they are considered as short-term capital assets. If you
hold these investments for more than 12 months before selling them,
they are considered as long-term capital assets.

Computing the date of holding of your equity investments
Purchase from the stock exchange
When you purchase shares from the stock exchange, the date of the
purchase is taken as the date on the broker’s purchase contract note.
Similarly, the date of sale is taken as the date on the broker’s sale
contract note.
Right shares
Where you have been allotted right shares, the period of holding will
be computed from the date of allotment of the shares. The amount
actually paid for purchase of the rights is taken as cost of the
shares.
Rights entitlement
Where you have sold your rights entitlements, the period of holding
will be computed from the date of offer to subscribe to the shares to
the date when such rights entitlement was renounced by you. The cost
of rights entitlement is taken as nil. The amount, you receive on
selling your rights entitlement, is taken as short-term capital gain.
Bonus shares
When you receive bonus shares, the period of holding is computed from
the date of allotment of the bonus shares. The cost of the bonus
shares is taken as nil.

Computing the capital gain
Computing capital gain on short-term equity investments (short-term
capital gain)

To compute tax on short-term capital gains, reduce the cost of shares
from the sale value of the shares and compute tax at 10 per cent +
surcharge of 10 per cent, if applicable (if your total income exceeds
Rs10 lakh, surcharge is applicable to you) + education cess of 2 per
cent.
Tax rate on short-term capital gains:
If surcharge is applicable If surcharge is not applicable
11.22 per cent 10.20 per cent

Computing capital gain on long-term equity investments (long-term
capital gain)

Long-term capital gains earned on your equity investment is completely
tax-free so there is no question of computing gain for tax purposes.
However, this exemption is available only when you sell your equity
through the stock exchange.
Setting off capital losses

If you have incurred a capital loss, the tax authorities allow you to
use this loss to reduce taxable capital gains from another source
under certain conditions. Here is a simplistic example for
explanation. If you have incurred a loss of Rs 1,000 from sale of
shares of Company ABC and you have made a profit of Rs 2,000 from sale
of shares of Company XYZ, you can use the loss on sale of shares of
Company ABC to reduce the taxable capital gains earned on sale of
shares of Company XYZ. In other words, you will pay capital gains tax
on only Rs 1,000 (gain of Rs 2,000 earned on sale of shares of Company
XYZ – loss of Rs 1,000 incurred on sale of shares of Company ABC).
Long-term capital losses
Since long-term capital gains earned on your equity investment are tax-
free, long-term capital losses incurred on your equity investment
cannot be used to reduce taxable capital gains.
Short-term capital losses
Short-term capital losses incurred on your equity investment can be
set off against any capital gain (long-term or short-term). If in the
current year you don’t have any taxable capital gain to set off the
loss against, you can carry forward this loss for 8 years and set it
off against any future taxable capital gain (long-term or short-term)