Computation of Capital Gain in Certain Cases

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1. Capital Gain from Zero-Coupon Bonds

(1) Meaning of Zero-Coupon Bond [Section 2(48)]:

“Zero Coupon Bond” means a bond—

  1. issued by any infrastructure capital company or infrastructure capital fund or public sector company or scheduled bank;
  2. in respect of which no payment and benefit is received or receivable before maturity or redemption from infrastructure capital company or infrastructure capital fund or public sector company; and
Computation of Capital Gain
Computation of Capital Gain

which the Central Government may, by notification in the Official Gazette, specify in this behalf.

(2) Maturity and redemption of Zero-Coupon bond to be regarded as a transfer [Section 2(47)]:

As per clause (b) above, the payment of and benefit from zero coupon bond shall be received or receivable from the issuing company/fund only at the time of maturity or redemption. Consequently, clause (iva) has been inserted in section 2(47) to provide that the maturity or redemption of a zero-coupon bond shall be regarded as a transfer.

(3) Transfer of Zero-Coupon bond will be subject to capital gain tax:

The profits arising on the transfer of such zero-coupon bond shall be chargeable under the head “capital gains”. Further, if such zero-coupon bonds are held for not more than 12 months, such capital asset shall be treated as short-term capital asset and hence shall be subject to short-term capital gain. On the other hand, where these bonds are held for more than 12 months, such capital gain shall be treated as long-term capital gain.

(3) Taxability of long-term capital gain from zero coupon bond [Proviso to section 112(1)]:

The long-term capital gain on zero coupon bonds shall be chargeable to tax at 10% of long-term capital gain without indexation of cost of such bonds.

2. Capital Gain in case of amount Received from an Insurer on account of Damage or Destruction of any Capital Asset [Section 45(1A)]:

Where any person receives at any time during any previous year any money or other assets under an insurance from an insurer on account of damage to, or destruction of, any capital asset, as a result of—

  1. flood, typhoon, hurricane, cyclone, earthquake or other convulsion of nature; or
  2. riot or civil disturbance; or
  3. accidental fire or explosion; or
  4. action by an enemy or action taken in combating an enemy (whether with or without a declaration of war),

then, any profits or gains arising from receipt of such money or other assets shall be chargeable to income-tax under the head “Capital gains”.

In which previous year the capital gain shall arise:

In the above case, the capital gain shall be deemed to be the income of the previous year in which such money or other asset was received.

What shall be full value of consideration in this case?:

It shall be value of any money or the fair market value of other assets for the date of such receipt.

3. Capital Gain on Conversion of Capital Asset into Stock-in-Trade [Section 45(2)]-

If capital asset is converted into stock-in-trade during a previous year relevant to the assessment year 1985-86 (or any subsequent year), the following special rules are applicable–

  1. The conversion of capital asset into stock-in-trade is treated as a ‘transfer’ within the meaning of section 2(47).
  2. However, section 45(2) provides that although such a conversion of capital asset into stock-in trade will be a transfer of the previous year in which the asset is so converted, but the capital gain will not arise in the previous year in which the asset is converted, it will arise in the previous year in which such converted asset is sold or otherwise transferred.
  3. Indexation of cost of acquisition and improvement, if required, will be done till the previous year in which such conversion took place.
  4. Further, the fair market value of the asset, as on the date of such conversion, shall be deemed to be full value of the consideration of the asset.
  5. The sale price minus market value as on the date of conversion shall be treated as business income and taxed under the head ‘Profits and gains of business and profession’.

4. Capital Gain on Transfer of Capital Asset by a Partner/ Member to a Firm/AOP/BOI as Capital Contribution [Section 45(3)]-

The profits or gains arising from the transfer of capital asset held by a person, to a firm or other association of persons or body of individuals (not being a company or a co-operative society) in which:

(a) he is or

(b) becomes a partner or member,

by way of capital contribution or otherwise, shall be chargeable to tax as his income of the previous year, in which such a transfer takes place and, for the purposes of computation of capital gain, in the hands of the partner/member, the amount recorded in the books of account of the firm, association or body of individuals for such capital asset shall be deemed to be the full value of the consideration.

It may be observed that the sale consideration in this case shall be the amount as recorded in the books of the firm/AOP, etc. and not the market value of the asset as on the date of the transfer.

Example:

X, Y and Z form a partnership firm. Soon after formation of the firm, X brings a house property as his capital contribution on August 20, 2018. On the date of transfer fair market value of the house is Rs. 20,00,000. However, the amount recorded in the books of firm is Rs. 18,00,000. The house was purchased by X in 2005-06 for Rs. 2,50,000. Find out the amount of capital gain.

Solution:

Capital gain will be taxable in the hands of X for the assessment year 2019-20 –

Full value of consideration (i.e., amount recorded in the books of account of the firm)Rs. 18,00,000
Less: Indexed cost of acquisition (Rs. 2,50,000 × 280 ÷ 117)Rs. 5,98,291
Long-term capital gainRs. 12,01,709

5. Capital Gain on Distribution of Capital Assets by a Firm, AOP/BOI to Partners at the time of Dissolution [Section 45(4)]-

The profits or gains arising from the transfer of a capital asset in specie to the partners/members thereof by way of distribution on the dissolution of a firm or other association of persons or body of individuals (not being a company or a cooperative society) or otherwise, shall be chargeable to tax as the income of the firm, association or body, of the previous year in which the said transfer takes place. In such a case, there will be a capital gain to the firm/AOP, etc.

For the purposes of computation of capital gain, the fair market value of the asset on the date of such transfer shall be deemed to be the full value of the consideration received or accruing as a result of transfer, instead of the value at which it is given to the partner/member.

1. Where depreciable asset is distributed, there will always be short-term capital gain/loss based upon the particular block of assets. On the other hand, if non-depreciable asset is distributed, it will be long-term capital gain or short-term capital gain, depending upon the period of holding by the firm. 2. Although, for the purpose of computation of capital gains in the hands of firm/AOP, the sale consideration shall be the market value of the asset as on the date of its distribution but the cost of acquisition of this asset to the partner/member shall be the value at which it was transferred to partner/member.

Example :

X and Y are two partners of a hardware trading firm. It is dissolved on March 10, 2019. At the time of dissolution, a plot of land owned by the firm is given to X (amount recorded in books of the firm is Rs. 45,00,000, however, fair market value is Rs. 66,00,000). This plot was purchased by the firm for Rs. 36,00,000 on March 5, 2012. Find out the amount of capital gain.

Solution :

Capital gain will be taxable for the assessment year 2019-20 –

Full value of consideration (i.e., fair market value on the date of distribution)Rs. 66,00,000
Less: Indexed cost of acquisition (Rs. 36,00,000 × 280 ÷ 184)Rs. 54,78,261
Long-term capital gainRs. 11,21,739

6. Capital Gain on Compulsory Acquisition of a Capital Asset [Section 45(5)]-

(1) Where a capital asset, other than urban agricultural land, has been compulsorily acquired under any law, it will be treated as a transfer of the previous year in which the asset is compulsorily acquired. 

(2) Indexation, if required, will be done till the previous year of compulsory acquisition. 

(3) However, the capital gain will be taxable in the previous year in which the compensation is received. 

(4) Similarly, if there is a transfer of capital asset other than urban agricultural land, the consideration for  which was determined or approved by the Central Government or the Reserve Bank of India, it will be treated as  transfer of the previous year in which the consideration is determined but capital gain will be taxable in the  previous year in which such consideration is received. 

Initial Compensation/ Consideration:

Initial compensation/consideration, as the case may be, shall be taken to be the sale consideration of the asset and the capital gain shall be computed accordingly. This capital gain shall be the income of the assessee of that previous year in which either whole or a part of the compensation/ consideration is actually received and not the year of compulsory acquisition/determination of consideration by Central Government or RBI. 

Enhanced Compensation/ Consideration:

Sometimes, the assessee is not satisfied with the compensation/ consideration determined and may go in for an appeal against the amount determined. If on appeal the compensation/consideration is enhanced, the additional compensation/consideration or further enhanced compensation/consideration is called ‘enhanced compensation’/consideration. Such enhanced compensation/ consideration shall be fully taxable as capital gain in the year in which it is received. The cost of acquisition and improvement thereto will be taken as nil, since it has already been deducted at the time of computation of capital gain for initial compensation/consideration. 

The entire amount of enhanced compensation/consideration after deducting expenses of realization, if any, shall be taken to be the capital gain of the year in which it is actually received. Such capital gain shall be long-term or short-term depending upon the original capital gain.

7. Computation of Capital Gains in case of Joint Development Agreement [Section 45(5A)]

Where the capital gain arises to an assessee, being an individual or a Hindu undivided family, from the transfer of a capital asset, being land or building or both, under a specified agreement, the capital gains shall be chargeable to income-tax as income of the previous year in which the certificate of completion for the whole or part of the project is issued by the competent authority provided the following conditions satisfied :

  1. the assessee should be an individual or HUF
  2. he holds the land or building or both
  3. he transfers such land or building or both to the developer
  4. he has entered into a specified agreement with such developer for developing a real estate project. (For meaning of specified agreement see box above)

If the above conditions are satisfied, the capital gains shall be chargeable to income-tax as income of the previous year in which the certificate of completion for the whole or part of the project is issued by the competent authority.

Full value of the Consideration for Computing the Capital Gain under Section 45(5A):

The stamp duty value of his share (i.e. share of the individual or HUF), being land or building or both, in the project on the date of issuing of said certificate of completion as increased by any monetary consideration received, if any, shall be deemed to be the full value of the consideration received or accruing as a result of the transfer of the capital asset.

Benefit of Section 45(5A) not available if the assessee transfer his share in the project to any other person on or before the date of issue of said certificate of completion

8. Capital Gain on Conversion of Debentures / Bonds into Shares [Section 47(x), 49(2A)]

When any debentures or part thereof of a company are converted into shares of that company, the transaction is not considered as a transfer and hence no capital gain is chargeable.

However, when these shares are, thereafter, actually transferred, capital gain shall arise and be chargeable in the previous year in which the shares are transferred.

The cost of acquisition of the shares shall be that part of the cost of debenture in relation to which shares were acquired by the assessee. [Section 49(2A)]

Further, for the purpose of computing the period of holding of such shares, the period for which the bond, debenture, debenture-stock or deposit certificate, as the case may be, was held by the assessee prior to the conversion shall also be included. [Rule 8AA(2)]

9. Capital Gain on Conversion of Preference Shares into Equity Shares [Section 47(xb), 49(2AE)]

As per section 47(xb), the conversion of preference share of a company into its equity share shall not be regarded as transfer, hence no capital gain is chargeable.

However, when these shares are, thereafter, actually transferred, capital gain shall arise and be chargeable in the previous year in which the shares are transferred. The cost of acquisition of such shares shall be deemed to be that part of the cost of the preference share in relation to which such asset is acquired by the assessee. [Section 49(2AE)]

Further, for the purpose of computing the period of holding of such shares, the period for which the preference shares were held by the assessee shall also be included. [Explanation 1 to section 2(42A)]

10. Capital Gain on Transfer of Self-Generated Capital Assets :

An asset which does not cost anything to the assessee in terms of money in its creation or acquisition, is a self-generated asset. Generally, there is no capital gain on transfer of self-generated assets as the cost of acquisition of such assets cannot be computed. But certain amendments have been made in the Income-tax Act and now capital gain arising on the transfer of the following assets is chargeable to tax:

  1. goodwill of a business. There will, however, be no capital gain on sale of goodwill of a profession;
  2. trademark or brand name associated with the business;
  3. right to manufacture, produce or process any article or thing, for a consideration e.g. patent, copyright, formula, design;
  4. right to carry on any business or profession,
  5. tenancy rights;
  6. route permits;
  7. loom hours.

When a self-generated capital asset is transferred, the following special rules are applicable –

(1) Self-generated goodwill of a business, right to manufacture/produce an article/thing or right to carry on business or profession –

In the case of transfer of these capital assets, cost of acquisition and cost of improvement are taken as nil. Expenses on transfer are, however, deductible on the basis of actual expenditure.

(2) Self-generated assets being tenancy right, route permit, loom hours, trade mark or brand name associated with a business –

In the case of transfer of these self-generated capital assets, cost of acquisition is taken as nil. Cost of improvement and expenses on transfer are, however, deductible on the basis of actual expenditure.

(3) Any other Self-Generated asset –

In the case of transfer of any other self-generated capital asset, capital gain is not chargeable to tax.

(4) Fair Market Value on April 1, 2001 –

Option not available – Even if the aforesaid assets self-generated were acquired before April 1, 2001, the option of adopting the fair market value on the said date is not available.

11. Capital Gains on Distribution of Assets by Companies in Liquidation [Section 46]:

Where the assets of a company are distributed to its shareholder on its liquidation, such distribution shall not be regarded as a transfer by the company. Therefore, there will be no capital gain to the company.

However, where a shareholder on the liquidation of a company, receives any money or other asset from the company in lieu of the shares held by him, such a shareholder shall be chargeable to income-tax under the head ‘Capital gains’ in respect of the money and the asset so received. In this case, the consideration price for capital gain purposes shall be money received and/or the market value of the other assets on the date of distribution minus deemed dividend within the meaning of section 2(22)(c).

Sale of Assets Received on Liquidation:

As per section 55(2)(b)(iii), if the asset (other than cash) acquired by the shareholder, at the time of liquidation, is subsequently transferred by the shareholder; then for the purpose of computation of capital gain of such transfer, the cost of acquisition of such asset shall be the market value of the asset on the date of distribution. In this case, deemed dividend will not be deducted

12. Capital Gain in the case of Transfer of Depreciable Assets [Section 50] –

In certain cases, there can be capital gain on the transfer of depreciable assets, which form part of a block of assets. If the full value of the consideration as a result of transfer of any part or entire block of assets exceeds the cost of acquisition of that block of depreciable assets, there will be a capital gain, which will always be short-term capital gain.

For the purpose of computing the capital gains, the following are normally deducted:

(a) expenses on transfer;

(b) cost of acquisition and cost of improvement thereto.

In case of depreciable assets, cost of acquisition and cost of improvement is taken as the aggregate of the following:

(a) WDV of the block of assets at the beginning of the year; and

(b) actual cost of any asset falling within that block, acquired during the year.

Computation of Capital Gain of Depreciable Assets :

The capital gain is calculated under the following two cases:

(I) Where entire block of depreciable assets is transferred i.e. the block ceases to exist:

If the value of the consideration exceeds the aggregate of cost of acquisition and the expenses of transfer, there will be short-term capital gain. On the other hand, if the value of the consideration of entire block transferred is less than the aggregate of cost of acquisition and expenses of transfer, there will be short-term capital loss;

(II) Where part of the block of depreciable assets is transferred i.e. the block does not cease to exist: If the value of consideration exceeds the aggregate of cost of acquisition and expenses of transfer, there will be short-term capital gain. On the other hand, if the value of the consideration of the part transferred is less than the cost of acquisition, then the balance left is the WDV of the block at the end of the year on which depreciation will be charged as per section 32.

13. Computation of Capital Gain in case of Depreciable Assets of Electricity Companies [Section 50A]:

Where the capital asset is an asset in respect of which an undertaking engaged in generation or generation  and distribution of power has claimed depreciation at certain percentage on actual cost under section 32(1)(i), in  any previous year, then for purpose of computing capital gain on such assets, the cost of acquisition shall be the  actual cost at which the asset was acquired by such undertaking and it shall not be the written down value as  adjusted, as is applicable for other assessee’s. However, on such transfer, the difference between the actual cost and the WDV of such asset shall be balancing charge taxable under section 41(2). Further in this case, there can be long-term capital gains if the asset is held for more than 36 months.

14. Computation of Capital Gains in case of ‘Slump Sale’ of one or more Undertakings [Section 50B]:

Any profits or gains arising from the slump sale, effected in the previous year, shall be chargeable to income-tax as capital gains arising from the transfer of long-term capital assets and shall be deemed to be the income of the previous year in which the transfer took place. However, if the undertaking is owned and held by the assessee for not more than 36 months immediately preceding the date of transfer, then such slump sale will result into short-term capital gain. On the other hand, if such undertaking is owned and held by the assessee for more than 36 months  immediately preceding the date of transfer, it shall be deemed to be long term capital gains irrespective of the fact  that such undertaking has acquired certain assets which are held for less than 36 months. 

What shall be cost of acquisition and cost of improvement in this case:

In relation to capital assets being an  undertaking or division transferred by way of such sale, the “net worth” of the undertaking or the division, as the  case may be, shall be deemed to be the cost of acquisition and the cost of improvement for the purposes of  sections 48 and 49 and its cost will not be indexed. 

However, any change in the value of assets on account of revaluation of assets shall be ignored for the purposes of computing the net worth.

What is a slump sale [Section 2(42C)]?
‘Slump sale’ means the transfer of one or more undertakings as a result of the sale for a lump sum consideration without values being assigned to the individual assets and liabilities in such sales. In other words, it is a sale where the assessee transfers one or more undertaking as a whole including all the assets and liabilities as a going concern. The consideration is fixed for the whole undertaking and received by the transferor. It is not fixed for each of the asset of the undertaking. The assessee may also transfer a division instead of the undertaking as a whole by way of such sale. Thus, it may be noted that the undertaking as a whole or the division transferred shall be a capital asset.

What is Net Worth ?
Net worth shall be the aggregate value of total assets of the undertaking or division as reduced by the value of liabilities of such undertaking or division as appearing in its books of account.

15. Computation of Capital Gains in Real Estate Transactions [Section 50C] –

Section 50C is applicable if the following conditions are satisfied—

  1. There is a transfer of land or building or both. The asset may be long-term capital asset or short-term capital asset. It may be depreciable or non-depreciable asset.
  2. Stamp duty value adopted (or assessed or assessable) by the Stamp duty authority in respect of such transfer, is more than 105 % of sale consideration.

If the above conditions are satisfied, the value adopted by the Stamp duty authority shall be taken as “full value of consideration” for the purpose of computation of capital gains.

In other words, section 50C is applicable only in those cases, where stamp duty value is more than 105 % of actual consideration.

However, where the value adopted or assessed or assessable by the stamp valuation authority does not exceed  105%, of the consideration received or accruing as a result of the transfer, the consideration so received or  accruing as a result of the transfer shall, for the purposes of section 48, be deemed to be the full value of the  consideration. [Third proviso inserted under section 50C(1)] 

In other words, if there is any variation between the Stamp duty price and actual consideration for the purpose of section 50C which is not more than 5% of the actual consideration, such variation shall be ignored and consideration price in this case shall be taken as actual consideration.

If the stamp duty value on the date of agreement and on the date of registration is different –

It is quite possible that stamp duty on the date of agreement (fixing the value of consideration) is different from stamp duty on the date of registration. In such a case, the stamp duty on the date of agreement may be taken (and not as on the date of registration).

However, this rule shall apply only in those cases where amount of consideration (or a part thereof) has been received by way of an account payee cheque/draft (or by use of electronic clearing system through a bank account) before the date of the agreement

Where valuation can be referred to the Valuation Officer:

If the following conditions are satisfied, the  Assessing Officer may on the basis of claim made by the assessee refer the valuation of the relevant asset to a  Valuation Officer in accordance with section 55A of the Income-tax Act: 

(i) where the assessee claims before the Assessing Officer that the value adopted or assessed by the stamp  valuation authority exceeds the fair market value of the property as on the date of transfer; and 

(ii) the value so adopted or assessed or assessable by stamp valuation authority has not been disputed, in any  appeal or revision or reference before any authority or Court.

16. Capital Gains on Purchase by Company of its Own Shares or Other Specified Securities [Section 46A]:

Where a shareholder or a holder of other specified securities receives any consideration from any company for purchase of:

  1. its own shares held by such shareholder or
  2. other specified securities held by holder of other specified securities,

then, subject to the provisions of section 48, the difference between the cost of acquisition and the value of consideration received by the shareholder or the holder of other specified securities, as the case may be, shall be deemed to be the capital gains arising to such shareholder or the holder of other specified securities, as the case may be, in the year in which such shares or other specified securities were purchased by the company.

In other words Section 46A is again a charging section and capital gain, in this case, shall arise in the previous year in which shares or other specified securities are purchased by the company and all the provisions of section 48 shall apply to such transaction.

“Specified securities” includes employees stock option or other securities as may be notified by the Central Government from time to time.

17. Capital Gain on Sale of Land and Building to be computed separately in case of Building Constructed by the Assessee:

Where the assessee acquires land and constructs the building on the same in any subsequent previous year then, for the purpose of computation of capital gain, the period of holding of the land and period of holding of the building shall be separately determined as below :

  • The period of holding of land shall be from the date of purchase of land till the date of sale of the house property.
  • On the other hand, the period of holding of the building shall be from the date of completion of building till the date of sale of the house property.

Thus, for computing capital gain, the indexation of cost, if required, will be computed separately for the land and for the building.

18. Capital gain on transfer of units of consolidated scheme of mutual fund on merger of similar schemes of mutual funds 

Any transfer by a unit holder of a capital asset, being a unit or units, held by him in the consolidating scheme  of a mutual fund, made in consideration of the allotment to him of a capital asset, being a unit or units, in the  consolidated scheme of the mutual fund shall not be regarded as transfer. 

Provided that the consolidation is of two or more schemes of equity-oriented fund or of two or more schemes of a fund other than equity-oriented fund. 

Hence, if the units held by the unit holder in the consolidating scheme of a mutual fund are transferred in a consolidated scheme of a mutual fund in consideration of the allotment to him of units, in the consolidated scheme of the mutual fund, it shall not be regarded as transfer. 

As per section 49(2AD), if the units of the consolidated scheme are subsequently sold by the unit holder, then  for the purpose of computing capital gain on the transfer of such units, the cost of acquisition shall be cost of the  units held by him in the consolidating scheme of the mutual fund. 

Further, as per Explanation 1 to section 2(42A), the period of holding of such units shall include the period for which the units in the consolidating scheme of the mutual fund were held by the assessee. 

(a) Meaning of consolidating scheme: “Consolidating scheme” means the scheme of a mutual fund which  merges under the process of consolidation of the schemes of mutual fund in accordance with the  Securities and Exchange Board of India (Mutual Funds) Regulations, 1996 made under the Securities  and Exchange Board of India Act, 1992. 

(b) Meaning of consolidated scheme: “Consolidated scheme” means the scheme with which the consolidating scheme merges or which is formed as a result of such merger.

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