What is Section 112A of the Income Tax Act?

If you are an investor in the stock market or someone who earns capital gains from the sale of equity shares, it's essential to understand Section 112A of the Income Tax Act. This section deals with the taxation of long-term capital gains (LTCG) from the sale of equity shares, mutual funds, and other equity-oriented instruments. In this blog post, we will break down Section 112A, explain how it works, and guide you on how it affects your tax liability.

1. What is Section 112A of the Income Tax Act?

Section 112A of the Income Tax Act was introduced in the Finance Act 2018 to tax long-term capital gains (LTCG) on the sale of equity shares and equity mutual funds. Prior to this amendment, LTCG on the sale of listed equity shares and mutual funds were exempt from tax, provided the shares were held for more than one year. However, the introduction of Section 112A altered this tax treatment.

According to Section 112A, any long-term capital gains on the sale of equity shares, equity mutual funds, or any other equity-oriented instruments above ₹1 lakh in a financial year are subject to a tax rate of 10%. This applies only if the shares or mutual funds are sold after holding them for at least one year.

2. Key Features of Section 112A

Here are some key points to remember about Section 112A:

• Tax Rate: A tax rate of 10% is applicable on LTCG exceeding ₹1 lakh from the sale of listed equity shares, equity-oriented mutual funds, or units of a business trust.
• Exemption Limit: LTCG up to ₹1 lakh in a financial year is exempt from tax. This means you don't need to pay any tax on capital gains if the total gains are ₹1 lakh or less.
• Holding Period: To qualify for LTCG, the shares or mutual funds must be held for at least one year. If sold before one year, they will be considered short-term capital gains (STCG), and the tax rate on STCG is higher.
• Grandfathering Clause: If you hold equity shares or mutual funds that were purchased before the introduction of Section 112A (April 1, 2018), the fair market value of the shares as of January 31, 2018, will be considered the acquisition price for calculating capital gains.
• Applicability: Section 112A applies to individual taxpayers, Hindu Undivided Families (HUF), and Hindu family members. It also applies to non-resident Indians (NRIs) but with some different provisions for them.

3. How to Calculate LTCG Under Section 112A?

To calculate LTCG under Section 112A, follow these simple steps:

1. Step 1: Calculate the sale price of the asset (shares or mutual funds).
2. Step 2: Subtract the cost of acquisition of the asset (purchase price) from the sale price. This gives you the capital gain.
3. Step 3: Apply the grandfathering clause for assets bought before April 1, 2018. The fair market value (FMV) as of January 31, 2018, will be considered as the purchase price for calculating the gain.
4. Step 4: Deduct any applicable expenses like brokerage fees and transaction costs, if any.
5. Step 5: If the capital gain exceeds ₹1 lakh, the excess amount will be taxed at 10% without the benefit of indexation.

4. Example of LTCG Calculation Under Section 112A

Let’s understand how LTCG is calculated under Section 112A with an example:

• Purchase Details: You purchased 100 shares of XYZ Ltd. on January 1, 2019, at ₹500 per share. Total purchase cost = ₹50,000.
• Sale Details: On December 15, 2022, you sold these shares at ₹700 per share. Total sale price = ₹70,000.
• Capital Gain: The capital gain is ₹70,000 - ₹50,000 = ₹20,000.
• Exemption Limit: The first ₹1 lakh of LTCG is exempt from tax, so no tax will be applicable on this gain.

In this case, you will not have to pay tax on your long-term capital gain, as it is below the exemption limit of ₹1 lakh for the financial year.

5. Tax Implications for Non-Resident Indians (NRIs)

Non-Resident Indians (NRIs) are also subject to Section 112A for LTCG on equity shares and mutual funds. However, there are some key differences:

• Tax Rate: NRIs are taxed at the same rate of 10% on LTCG exceeding ₹1 lakh, but they are not eligible for the ₹1 lakh exemption.
• Tax Withholding: The tax is deducted at source (TDS) by the broker at a rate of 10%, and the NRI can claim a refund if they are eligible for tax relief under the Double Taxation Avoidance Agreement (DTAA).

6. Conclusion

Section 112A of the Income Tax Act ensures that long-term capital gains from the sale of listed equity shares and mutual funds are taxed in a fair and transparent manner. While the tax rate of 10% may seem high, the ₹1 lakh exemption threshold offers some relief to small investors. It's crucial to stay updated on changes in tax laws and consult with a tax professional to ensure you comply with tax regulations while maximizing your investment returns.