Jigar M. Patel
International Tax Attorney
Imagine celebrating a handsome profit on your IPO investment, confident that since your annual income as an individual resident is below Rs. 12 lakhs, therefore tax-free. But what if the taxman has other ideas?
As investors eagerly await the listing of one of India’s record-breaking IPO which garnered subscription of over Rs. 30,000 crores, there is an important tax lesson worth understanding.
Total income below Rs. 12 lakhs? Zero Tax Not Guaranteed!
Under the new tax regime, resident individuals with total income not exceeding Rs. 12 lakhs can claim a rebate of up to Rs. 60,000 under Section 156 of the Income-tax Act, 2025 (Section 87A of the Income-tax Act, 1961). However, this rebate is restricted to income taxed at normal slab rates and cannot wipe out tax payable on short-term or long-term capital gains from listed shares that attract special tax rates.
Consider the case of an investor having a taxable salary of Rs. 10 lakhs who reaps short-term capital gains (STCG) of Rs. 2 lakhs from sale of his IPO share allotment post listing of the shares. STCG from equity shares through market sale, where Securities Transaction Tax (STT) is paid, attracts tax at the special rate of 20%.
Therefore, in this case, while the tax rebate can be adjusted against tax payable on salary income liable to tax at normal rates, no rebate can be claimed in respect of the STCG of Rs. 2 lakhs, which would thus attract tax at the flat rate of 20.8% (inclusive of cess) of Rs. 41,600.
Can an Off-Market Sale play the Tax Saving Trick?
Quite iniquitous and illogical as it may seem, but it is true! If in the above case, the investor acts smart and prefers to go for an off-market sale, which does not attract STT, the gain arising to him, though in the nature of STCG, would be liable to be taxed at normal rates of tax (on the income slab between Rs. 10 to 12 lakhs) and not at the special tax rate of 20.8%. The applicable tax on such income attracting normal tax would be eligible for the benefit of tax rebate, thus entitling the taxpayer to the full rebate of Rs. 60,000 and resultant zero-tax. Effectively, the taxpayer, through his strategic planning, can save the above-referred tax burden of Rs. 41,600.
Tax Shelter for STCG within Basic Exemption Limit
While STCG taxable at the special rate (as explained above) cannot enjoy the benefit of tax rebate, even if the total income of a taxpayer is within the prescribed limit of Rs. 12 lakhs, an important distinction needs to be drawn in regard to a case, where the taxpayer’s total taxable income (excluding STCG) is less than the threshold of the basic exemption of Rs. 4 lakhs under the new tax regime.
To illustrate, a taxpayer earns taxable pension and interest of Rs. 2.5 lakhs. He has also reaped STT paid STCG of Rs. 2 lakhs. Although STCG otherwise attracts tax at the flat rate of 20.8%, the Income-tax Act provides that the amount of gains within the unabsorbed exemption limit can be treated as exempt. In this case, Rs. 1.5 lakhs (4 lakhs less 2.5 lakhs) can be treated as exempt and only the balance amount of Rs. 50,000 would be liable to tax at 20.8%, that is a net tax liability of Rs. 10,400.
