What are long-term capital gains?

Section 45 of income tax act, 1961 provides that any profits or gains arising from the transfer of a capital asset effected in the previous year will be chargeable to income tax under the head “capital gains”. Such capital gains are considered as income.

Further, these are categorized as short-term and long-term capital gains. The duration for which the asset is held determines whether it is a long-term asset or a short-term asset.

For some notified assets such as equity and debentures, a holding period of 12 months qualifies them as long-term capital assets. For immovable assets like land or house, the holding period to qualify as long-term is 24 months. The government usually sets a lower rate of tax for long-term capital gains.

Currently, long-term capital gains are usually taxed is 20%. However, there are certain exception to this rule, for example Long Term Capital Gain over Rs. 1 Lakh in a financial year on listed equity shares is taxable at the rate of 10% without the benefit of indexation. You need to declare the total gains while filing your income tax returns annually. Moreover, you can claim your capital losses (both short-term and long-term) against your long-term gains during a financial year.

There is no provision for the losses under the head capital gain to be set off against any other income heads. Therefore, long term capital loss can be set off only against long term capital gains. On the other hand, you should note that short term capital losses are allowed to be set off against both long term gains and short term gains.

You can carry forward your capital losses if you are not able to set them off in a given fiscal. These losses can be carried forward for eight years from the assessment year in which the loss was first reported.

Why should you care about long-term capital gains?

While calculating your tax liability, remember that there is no exemption on these gains. Therefore, the entire amount of returns in a year will be eligible to be taxed. However, you can set off long term capital gains by investing in certain asset classes such as:

1. Exemption under Section 54: Capital Gain on Sale of Residential House

The following conditions should be satisfied to claim the benefit of Section 54:-

  • The benefit of section 54 is available only to an individual or HUF.
  • The asset transferred should be a long-term capital asset, being a residential house property.
  • Within a period of one year before or two years after the date of transfer of old house, the taxpayer should acquire another residential house or should construct a residential house within a period of three years from the date of transfer of the old house. In case of compulsory acquisition, the period of acquisition or construction will be determined from the date of receipt of compensation.
Quantum of Deduction

If the Capital Gains amount is equal to or less than the cost of the new house, then the entire capital gain shall be exempt

If the amount of Capital Gain is greater than the cost of the new house, then the cost of the new house shall be allowed as an exemption.

How many houses can be purchased for claiming Section 54 Exemption?

Earlier the Capital Gains Exemption is allowed only if the Capital Gains exemption is invested in construction/purchase of 1 residential house. This amendment is welcomed by the taxpayers as it will help in tax savings. Irrespective of the no. of houses already owned by the person, if he invests the capital gain in construction/purchase of a single residential house – then capital gains exemption can be claimed.

As an exception to the above rule and with the amendment made by Finance Act, 2019, in cases where the amount of Capital Gains does not exceed Rs. 2 Crores, the capital gains exemption would be allowed even if the investment is made in purchase/construction of 2 residential houses. However, this exemption of purchasing 2 residential houses can be claimed only once. This exemption once claimed cannot be claimed in again in any other year. For all other years, investment should be made in construction/ purchase of 1 residential house only.

2. Section 54EC - Investment in Bonds

Gains arising from the transfer of any long term capital asset being land or building or both are exempt under section 54EC if the assessee has within a period of 6 months after the due date of such transfer invested the capital gain in long term specified bonds as notified by the Govt. for a minimum period of 5 year.

Conditions to be fulfilled:
  • Such asset can also be a depreciable asset (in this case, building) held for more than 24 months.
  • The capital gains arising from such transfer should be invested in a long-term specified asset within 6 months from the date of transfer.
  • Long-term specified asset means specified bonds, redeemable after 5 years, issued on or after 1.4.2018 by the National Highways Authority of India (NHAI) or the Rural Electrification Corporation Limited (RECL) or any other bond notified by the Central Government in this behalf [Bonds of Power Finance Corporation (PFC) and Indian Railways Finance Corporation (IRFC)].
  • Amount invested can not exceed 50 lakhs.

3. Capital Gains Account Scheme:

Capital Gains Account Scheme (CGAS) allows individuals to safeguard their long-term capital gains until they are able to invest it as specified in Sections 54 and 54F. In CGAS scheme a taxpayer can claim exemption and save taxes by opening “Capital Gain Account” in any of the authorized bank branches as specified therein and investing the capital gain in such “Capital Gain Account”

You are allowed to withdraw from this account only if you plan on investing in housing property. If you withdraw for any other reason, you will be taxed.

4. Section 54F:

As per the Income Tax Act's Section 54F, exemption of capital gain is made available in the situation of transfer of long term capital assets other than residential house property, against the investment one makes in a residential house. Some of the features to avail exemptions u/s 54F are mentioned below:

The exemptions u/s 54F is for Hindu Undivided Families and individuals.

In case of purchase the time limit is within 1 year before or 2 years after the date of transfer of asset and in case of construction its within 3 years after the date of such transfer.

Quantum of Deduction:

If the net consideration is equal to or less than the cost of the new house, then the entire capital gain shall be exempt

If the net consideration is greater than the cost of the new house, then exemption will be calculated as below :
Exemption Amount = (Capital Gains * Amount Invested) / Net Sales Consideration

Rules for Setting-off Losses against Gains

When balancing capital losses against capital gains, a taxpayer must follow five fundamental rules. The following are the five rules:

  1. Long-term capital loss [Section 70(3)]

    Short-term capital loss is allowed to be set off against both short-term capital gain and long-term capital gain. However, long-term capital loss can be set-off only against long-term capital gain and not against short-term capital gain.

    Where the net result of computation under the head ‘Capital Gains’ is a loss, such capital loss cannot be set-off against income under any other head.

  2. Speculation loss [Section 73(1)]

    A loss in speculation business can be set-off only against the profits of any other speculation business and not against any other business or professional income.

    However, losses from other business can be adjusted against profits from speculation business.

  3. Loss from the activity of owning and maintaining race horses [Section 74A(3)]

    Such loss can be set-off only against income from the activity of owning and maintaining race horses.

  4. Losses from Specified business [Section 73A(1)]

    A loss in any specified business referred in section 35AD can be set-off only against any other specified business.

    However, losses from other business can be set-off against profits from specified business

  5. Exempt income

    it must be noted that loss from an exempt source cannot be set-off against profits from a taxable source of income.

Among the many heads of income, there are adjustments both within and between heads. Prior to performing the inter-head adjustment, one must perform the intra-head adjustment. When a taxpayer makes an intra-head adjustment, she is able to offset a loss from one source under one head against income from another source under the same head. If you own three residential properties and one of them incurs a loss, for instance, the revenue from the other two residential properties might be used to offset the loss (such as rental income). Losses from one head of income (such as company income) are offset against gains from another head of income in a process known as inter head adjustment (e.g., capital gains).

Things to Keep in Mind while Claiming Set-off

Three considerations should be kept in mind while claiming set off from carried forward losses, they are:

  • First, the year that the loss was incurred must be double-checked to ensure that it was within the allowable 8-year window from the loss's base year.
  • Second, find out if assessments for any years have decreased the loss amount and if the adjustment has become final.
  • Thirdly, for a specific class of tax-payers, whether the return for the base year was submitted by the deadline for submitting ITRs.

If you were the subject of income tax investigations such as search and survey and your hidden income was discovered as a result, no loss of any sort can be offset against such hidden income.

How to claim set-off in ITR form

Gains and losses must be reported in the ITR along with the set off.

  • This needs to be disclosed in the ITR form's Schedule-CG.
  • You must choose the appropriate ITR form after you are aware of the numerous income sources.
  • For the purpose of computation, one must enter the data in the columns related to capital gains and losses.
  • The complete amount of consideration (sales price), date of sale, cost of acquisition, date of acquisition, and any other relevant information or expenses, as appropriate, must all be entered.
  • You must also include the relevant information if you are claiming a deduction (such as under Section 54) against capital gains.

Before filing the ITR, it is crucial to enter the correct information and then double-check and validate that it is accurate. Before entering the information into the ITR forms, it is advisable to calculate the income and losses considering the provisions of Income Tax Act, 1961.