One of the important mid- to long-term investment avenues where individuals invest their savings is equity and mutual funds.

Also, Employee Stock Option Plans (ESOPs) have been used as an important tool by the companies, especially the start-up businesses and unlisted companies planning to go for IPO in near future, to attract, retain and motivate employees.

One of the key attractions in respect of the equity shares/specified securities listed in a stock exchange is the nil/lower tax rate in comparison with other investment assets.

Long-term capital gains

If shares are held by the tax payer for more than 12 months, then gains arising from their sale/transfer are treated as long term capital gains. If the period of holding is lower, then such gain is treated as short term capital gains.

Long term capital gains arising from the sale of shares listed on a stock exchange in India on which Security Transaction Tax (STT) is paid are not subject to tax.

While short term capital gains arising in case of listed shares on which STT is paid are subject to tax at a concessional rate of 15% plus education cess.

In case of unlisted shares, the long term capital gains are taxed at a concessional rate of 20% plus education cess. While the short-term capital gains are taxed at the applicable rate i.e. as per the slab rate applicable to the individuals.

Capital gains is to be treated as income from ordinary sources

As per the revised discussion paper on Direct Taxes Code, capital gains is to be treated as income from ordinary sources and taxed at the applicable rates, as below:

(i) Listed shares: In case of equity shares listed on a recognised stock exchange, which are held for more than one year from the end of the financial year in which these are acquired, the capital gains shall be computed after allowing a deduction at a specified percentage of such gains without any indexation. Thus, it would reduce the effective tax rate in case of long term capital gains.

(ii) Unlisted shares: In case of long-term capital gains arising in case of unlisted shares, the base rate for determining the cost of acquisition is proposed to be shifted from 1 April 1981 to 1 April 2000. The capital gains will be computed after allowing indexation on this raised base. The capital gains on such assets will be included in the total income of the tax payer and will be taxed at the applicable rate.

Short-term capital gains

In case of short-term capital gains arising from any investment asset held for less than one year from the end of the financial year in which these are acquired, the capital gains shall be computed without any specified reduction or indexation benefit. Such capital gains will be included in total income of the tax payer and will be charged to tax at the rate applicable to the tax payer.

STT to continue

Further, the STT is proposed to be continued albeit in a calibrated manner to be specified, being a tax on the transaction.

Important to note

It is important to note that it is proposed to tax capital gains whether long-term or short-term, listed or unlisted, as per the method/rates to be prescribed.

Therefore, individual investors who have invested in the equities or equity-oriented funds need to analyse the impact of the proposed changes on their portfolio as the capital gains arising from sale of shares would now be subject to tax in all cases including those of listed shares.

Similarly, the stock option schemes, especially those of unlisted companies, may require a re-evaluation as the long-term capital gains after IPO would now be subject to tax in the hands of the employees.